Small Business Risk Management

Risk management is essential for small businesses to protect their assets, finances, and operations. Small businesses are more vulnerable to risks than larger businesses, and have fewer resources to fall back on if something goes wrong. Here are some risk management strategies for small businesses:
Risk identification
A systematic process that involves identifying the sources, likelihood, and consequences of different types of risks

Risk mitigation
A plan that seeks to limit the financial impact on the company if something goes wrong
Monitoring
An essential part of risk management, often handled manually in smaller organizations
Business continuity planning
A formal system and structure that helps reduce the risks to your business, and provides a defined path for recovering from potential threats

Business Valuation

Why it is important to have a current valuation?

Business owners are sometimes so focused on the day-to-day operations of their businesses that they overlook a large component of their overall wealth — the value of their business. There are several occasions when an owner should consider having a formal valuation performed for their business.

Through a formal business valuation process, you will learn what the fair market value of your business is, or what a hypothetical buyer would be willing to pay for your business. You should have a business valuation handy at all times for a variety of important business and personal financial planning reasons such as planning for a sale of the business, retirement, estate planning or business strategy. And when you have a valuation performed, you want one that is accurate and will hold up in case of litigation.

1. Selling your business – As the economy continues to recover and M&A deal flow improves, many business owners are looking to cash out. In order to be well informed during price negotiations, it is important to have an accurate idea of what your business is worth and how a buyer may be viewing the cash flows of the company. Performing a business valuation early in the planning process (potentially years before a sale), can help you achieve a more favorable outcome as you will have a better understanding of the value drivers of your business. By planning early, you can actively improve these value drivers to maximize the realized value during the exit.

2. Retiring – If, like many business owners, the sale of your business is your retirement plan, you need to know the value of one of your biggest assets to better plan for retirement. Your perception of your business’ value may be very different from what the pool of potential buyers is willing to pay. Understanding the fair market value of your business will allow you to have more confidence in your planning process and help you achieve your retirement goals.

3. Planning Your Estate – Your business may be a critical part of the estate you plan to pass on to future generations or other family members. If the estate is sizable enough, an estate planning transaction may draw some attention from the IRS. Filing a well-supported and documented valuation with your gift tax returns will help defend the value of the business to taxing authorities, especially if certain valuation discounts are applied.

4. Managing your business – Similar to the way you might follow the stock price for a public company, tracking the per share equity value of your privately held business can be an effective way to measure performance or set management incentives. A valuation professional will be able to set up a framework to help identify changes in the business that could improve value. This information and the perspective of an independent third-party appraiser can help you decide how to allocate resources and invest to drive growth.

5. Defending Your Value – It is particularly important to have a well-supported valuation when there is a possibility that the value of the business may be contested as part of a shareholder dispute, purchase or sale process, or a divorce.

You might be tempted to minimize costs during these already expensive processes but a more robust analysis can differ significantly from a high level estimate generated from the use of valuation shortcuts. A thorough analysis will be more reliable, supportable and defendable when disputed.

Article from St Louis Business Journal 2017 Ben Morgan

401K Plan Review

Steps you can take to identify issues within your plan before an audit.
1. Not keeping plan document up-to-date
If any rules or regulations pertaining to plans have changed, plan documents must be changed to reflect those changes. Many plan vendors will provide the sponsor with amendments, but it is the sponsor’s responsibility to formally adopt them.

2. Not following plan documents
The plan document serves as the foundation for plan operations; simply put, it is the operating manual for the plan. It’s important to understand plan documents and consult them upon making decisions. If operations have changed, plan documents need to be updated to be current and accurate. It’s a good idea to conduct a document/process audit every couple of years. Don’t assume that the way things have always been done is supported by the legal document governing the plan.

3. Using incorrect definition of compensation to calculate deferrals
A big problem that a lot of retirement plans face is the proper application of the plan’s compensation definition. With numerous payroll systems and pay codes, it’s easy for something to get programmed incorrectly that, in turn, incorrectly calculates deferrals. Plan sponsors need to make sure that what’s happening operationally is in agreement with the plan document. Read the document’s definition of eligible compensation and check it against a few employees’ payroll records to verify that all eligible compensation was included when calculating their deferrals. If there are discrepancies, corrective distributions or contributions may be needed.

4. Not depositing participant contributions on timely basis
Late payroll deposits are one of the most common DOL audit issues. The law requires that participant contributions be deposited in the plan as soon as it is reasonably possible to segregate them from the company’s assets. The word “reasonably” is not defined under federal law or guidance for purposes of determining whether a deposit of deferrals has been made timely. Generally for larger businesses, a timely deposit will most likely happen within a couple of business days after the payroll withholding.

There is a small business safe harbor that applies to businesses with fewer than 100 participants. The safe harbor states that 401(k) deposits for a small business are timely if they are made within seven business days from the date the contributions were withheld from employee wages. We recommend that the plan sponsor examine the company’s payroll process to determine the date that contributions can reasonably be segregated from assets and use this date as the maximum deadline for remitting contributions.

5. Not following eligibility requirements
The plan document spells out employees’ rights to retirement benefits and the formulas for determining them based on the correct application of service and/or age requirements of the plan regarding eligibility for participation. To comply with those requirements, the plan sponsor needs to maintain accurate service records for all employees and have a process built into their system to inform them when the requisite hours are reached by each employee. If these records are incorrect or a system is not in place, the benefits provided may be incorrect. It’s a good practice to periodically pull a representative sampling of employees (new hires, transfers, rehires and part-time employees) and review eligibility procedures.

6. Improper participant loans, hardship withdrawals
Plan documents provide that hardship distributions can only be obtained for certain very specific reasons, and loans are permissible only when they comply with certain standards. Failure to ensure that these legal requirements are met can result in a distribution that is not authorized under the terms of the plan document. We recommend that employers check to make sure that provisions in the plan document properly reflect how the plan is actually administered. The employer can check for compliance by picking a representative sampling of employees who have taken a hardship distribution or loan and reviewing the paperwork that relates to those loans to make sure everything is in order and complies with legal requirements.

7. Failing to perform ADP/ACP nondiscrimination testing
The Employee Retirement Income Security Act requires testing to prove 401(k) plans do not discriminate in favor of highly compensated employees. The IRS believes that one of the greatest failures for 401(k) plans is the failure to perform this required discrimination testing and correct any errors by the proper deadline. Nondiscrimination testing is usually performed by the record-keeper or a third-party administrator, but plan sponsors should understand the basics, including the consequences of failing. Employers should examine these tests for errors, such as employees listed with zero compensation or employees on the list who have deferral percentages greater than plan limits.

8. Forgetting to file Form 5500
A Form 5500 has to be filed with the DOL every year. Sometimes it can fall through the cracks, especially in small companies. For larger plans, failure to file the Form 5500 can occur when mandatory audits are not completed in time to be included with the Form 5500 as required. Plan sponsors should develop an annual compliance checklist that includes completing and filing the Form 5500. Another option is to outsource the filing of Form 5500 to a reliable third-party administrator.

With continuous monitoring and periodic self-audits, retirement plan sponsors can avoid many of the problems detailed here. As for plans that are not in compliance, the IRS and DOL have several programs for voluntary self-correction of operational errors and fiduciary violations. If caught early enough, many issues can be easily fixed by the plan sponsor

Cross Purchase Agreements

A cross-purchase agreement is a legally binding contract between business partners or shareholders that outlines how to transfer ownership or assets if a partner dies, retires, or becomes incapacitated. The agreement can also establish a plan for business continuity and provide tax benefits.

Key Man Insurance

Key man insurance, also known as key person insurance or key employee insurance, is a type of life insurance policy taken out by a business on the life of a key employee. This employee is typically someone whose skills, knowledge, or overall contribution are considered crucial to the company's success. The company pays the premiums and is the beneficiary of the policy.

Here are some key points about key man insurance:

Purpose: The primary purpose of key man insurance is to protect the business from financial loss that may occur due to the death or disability of the key employee. The funds from the insurance policy can be used to cover expenses such as hiring a replacement, covering lost revenue, paying off debts, or funding the transition period.

Who Qualifies as a Key Person?: A key person can be anyone whose loss would severely impact the company’s operations and financial health. This could be a founder, CEO, top executive, or a highly skilled employee.

Types of Coverage: Key man insurance can be structured as term life insurance, which provides coverage for a specific period, or as permanent life insurance, which provides coverage for the lifetime of the insured. Additionally, it can include disability coverage, which provides benefits if the key person becomes disabled and unable to work.

Benefits to the Business: The insurance payout can help ensure business continuity, maintain the confidence of stakeholders (such as investors, creditors, and customers), and provide financial stability during a challenging time.

Tax Implications: Premiums paid on key man insurance are generally not tax-deductible as a business expense, but the death benefit received by the company is typically tax-free. However, specific tax regulations can vary by jurisdiction, so it is advisable to consult with a tax professional.

Policy Considerations: When setting up a key man insurance policy, businesses need to determine the amount of coverage needed, which is usually based on the financial impact the loss of the key person would have. They also need to decide on the type and term of the policy that best suits their needs.

Overall, key man insurance is a strategic risk management tool that provides businesses with a financial safety net in the event of the loss of an essential employee.

How can we help?

Email jnusslein@tandemhead.com