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Golden Handcuffs, Part 2: Do Passive Heirs Deserve a Cut of a New-But-Related Business?

  • 10 June 2014
  • Author: Cari Holbrook
  • Number of views: 2554
Golden Handcuffs, Part 2:  Do Passive Heirs Deserve a Cut of a New-But-Related Business?

Welcome to Part 2 of our blog series on “Golden Handcuffs: Passing Down the Business to Heirs.” Over the next few months, we’ll discuss ways to pass down your family business to your heirs. Some heirs may be active in the business, others may be passive; this scenario holds many challenges. In this post, we look at ways you can answer the question:

Do Passive Heirs Deserve a Cut of a New-But-Related Business?

Mostly likely: Yes.  In fact, the issue is startlingly black and white. To explain, let’s take a look at a common scenario:

Two siblings inherit a family business from a parent. Sibling one is active in the day-to-day running of the business. She keeps the inventory, manages employees and interacts with customers and vendors. Sibling two decided to go a different route in his career, becoming an executive elsewhere. While he owns part of the inherited company, he’s a passive heir and only participates in the business decisions that require partner input.

Let’s say the business manufactures widgets for gardening. The active partner discovers the same equipment can be used to manufacture a trendy toy for kids. Even though the product will be sold to a completely different customer base, the active partner cannot spin off the business and develop a new business structure centering on the toy idea while cutting out her sibling.

Likewise—in another popular scenario—the active partner cannot decide to open up a retail store to directly sell the widgets to customers without a fiduciary responsibility to the passive partner. Why? Both the secondary widget and the retail store can be considered related businesses. In fact, even a seemingly unrelated business that sells to the same customer base may also be subject to these rules. Here’s why: No matter how passive a business owner is and no matter how small an ownership that passive heir has in the business, that owner has the same ownership rights to the business as the other partner(s). In more cases than not, there is a fiduciary relationship to the passive owner when it comes to related businesses and opportunities.

So what’s an active heir to do?  Oftentimes, these situations can be relatively easy to solve by the active owner buying out the passive owner. Even showing that the passive owner was offered money but refused it may help loosen some restraints for an active owner. In the end, consulting an attorney is key. Preserving the relationship among family members who find themselves co-owners is also important. Even if a business opportunity is deemed unrelated, will cutting out the passive partner without making an offer lead to a strain on the relationship? If so, consider the choice carefully before acting.

Image copyright: lostintrance / 123RF Stock Photo

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