One asset that business owners often overlook (and undervalue) is the company’s intellectual property (IP). The World Intellectual Property Organization defines IP as creations of the mind — inventions, literary and artistic works, symbols, names, images, and designs used in commerce. The law recognizes four categories of intellectual property. We’ll spend some time with each of these in future posts, but here’s a quick overview to get started:
Patents protect inventions such as machines or processes. If properly registered with the US Patent and Trademark Office, patents provide inventors with an exclusive right to manufacture and market their invention. Federal patent protection lasts up to 20 years.
A trademark is a name, phrase, sound, or symbol used in connection with services or products. Think of Nike’s swoop or the phrase “Just do it.” Federal trademark protection lasts for 10 years after registration and can be renewed “in perpetuity.” Trademarks can also be established without formal registration. If a company creates a symbol or name it wishes to use exclusively, it can simply attach the TM symbol to identify and protect the mark under common law; however, it is easier (more cost-effective) to enforce federally protected trademarks in court).
Copyright laws protect written or artistic compositions such as books, poems, songs, or movies. A copyright protects the expression of an idea, but not the idea itself. The owner of a copyrighted work has the right to reproduce, sell, perform, or display the work to the public. An author can have a common law copyright without federal registration, but cannot sue for copyright infringement of an unregistered copyright. A copyright lasts for the life of the author plus another 50 years.
Trade secrets include formulas, patterns, devices, or compilations of data that give a competitive advantage in business. Unlike the first three categories, trade secrets are governed by state law. To protect the secret, a business must prove that it adds value to the company and that appropriate measures have been taken within the company to safeguard the secret.
In today’s post we’ll continue our review of the six common mistakes that can destroy businesses. The second mistake is failing to do estate planning, and specifically the failure to accurately estimate (and pay for) any tax liabilities that result from a business owner transferring ownership via a will or trust.
Answer the following questions to see if your company is vulnerable:
• Does the owner have a will or trust and is it up to date?
• Does the owner have a living will AKA “pull the plug” instructions?
• Does the owner have a plan to retain key employees if something happens to him or her?
• Has the owner reviewed his or her estate planning documents in the past three years?
• Has the owner identified and written down his or her trusted advisors?
The more “no” answers, the greater the risk. How does your company look?
Estate planning is important for stating who receives your property and other assets when you die. But it’s also about minimizing potential taxes. As we discussed last month, spouses typically get their portion of an estate tax-free, but children, friends, or business partners do not. The so-called “death tax” comes in two forms: federal (estates valued at more than $5,250,000) and state (Oregon’s inheritance tax applies to estates valued at more than $1,000,000).
Although it may not be possible to avoid an estate tax, life insurance or other investment vehicles may provide a source of funding to avoid a potentially crippling blow.
Running a successful business is time-consuming, but failure to plan is planning to fail. Business owners should take steps to preserve the value of the company for the next generation.
Anyone who’s wrangled over the value of marital assets in a divorce understands the value of a well-drafted prenuptial agreement. For the same reason, closely held businesses with multiple owners need a buy-sell agreement. A buy-sell agreement is a legal document that spells out how to value ownership interests and how and when owners may sell those interests. More importantly, a buy-sell agreement can provide a source of funding for the purchase of an owner’s interest in the business in case of death or disability.
A “standard” buy-sell agreement may prevent the sale of an owner’s interest in the company to anyone but another owner, or require consent of all other owners to bring in a new owner. If an outsider makes an offer, there may be first rights of refusal that allow either the company or individual owners to match the terms of the offer.
In addition, a buy-sell agreement should provide for a valuation method to minimize disagreement over how much money an owner gets for his or her share of the company. Valuation methodologies come in all shapes and sizes, and some are more appropriate than others depending on the nature of the business. And while mathematical formulas relating to multiples of earnings offer a quick answer, it is rare if ever that a simple equation will correlate to the true “going concern” value of a company. For those reasons, many buy-sell agreements contain a default provision requiring the owners to hire a qualified business appraiser to value the business if the owners can’t agree.
The buy-sell agreement also may require a mandatory company buy-back of an owner’s interest in the business if the owner dies or becomes disabled. Typically, the buy-sell agreement will include language that lets the company purchase life or disability insurance on all of the owners to ensure sufficient cash to fund a company purchase. However, many companies don’t get around to buying the appropriate insurance policies, or they don’t update the value of the company regularly to know how much insurance is needed. In situations where an owner dies or becomes disabled, an unfunded buy-sell agreement isn’t much better than no buy-sell agreement at all.