Oral Testimony to the Internal Revenue Service, US Department of Treasury
Section 2704 of IRS Regulations
December 1, 2016
Background: On August 4, 2016, the IRS proposed regulations concerning the valuation of interests in corporations and partnerships for estate, gift, and generation-skipping transfer (GST) tax purposes. Specifically, these proposed regulations concern the treatment of certain lapsing rights and restrictions on liquidation in determining the value of the transferred interests.
The US Department of Treasury held a hearing on December 1, 2016 to allow people to discuss the proposed regulations. The following presentation requests the US Department of Treasury to withdraw the proposed regulations and leave in place the current Section 2704.
I. Who is FEUSA
My name is Mike Hamra and I am the Chair of Family Enterprise USA (FEUSA) which is a 501(c)(3) organization that is dedicated to educating the public, policymakers and lawmakers about the positive role private family businesses play in our communities and our economy.
I am also a second-generation CEO of a chain of quick casual restaurants employing almost 7,000 people so my views are not just theoretical, but based in the daily struggles of the average American and I care very much about protecting the careers of our employees, their families and the communities we do business in.
II. The Value of Family Owned Businesses
It’s important to be clear about the value family businesses provide to our economy and to our country. And to understand their impact, we must understand how we define a family business. There are essentially three types of definitions. The broadest of the definitions includes businesses where the strategic direction is controlled by the family and the family runs the business. When using this broadest definition, 64% of the GDP in this country is generated by family businesses and those businesses support 62% of the workforce.
A second, more narrow definition includes family owned businesses where the founder or the founder’s descendants run the business and take actions to keep the family in control of the business. Using this definition, family businesses in this country generate 59% of the GDP and support 58% of the workforce.
The third and most narrow definition of family businesses includes businesses in which multiple generations participate in the business and where more than one member of the ownership group has management responsibility and members in multiple generations of the family hold controlling ownership. In this highly conservative definition, family owned businesses generate 29% of the GDP and support 27% of the workforce.
Regardless the definition used, family owned businesses account for a significant part of our economy and because they are driven to create sustainable businesses that can be passed from one generation to the next, they are ideally set up to employ strategies that focus on the future. Decisions that are made daily are made to be consistent with the long-term vision of the business and the long-term welfare of the communities in which they live.
Statistically, family owned businesses are the first to hire and last to fire. Specifically, they are the first to hire in an upturn of our economy and last to let people go in a downturn of our economy. They are attributable to 70% of all net new jobs in this country. In addition, they maintain cultures that cultivate people in their careers and because they are focused on being a multigenerational businesses with long term strategic objectives, they are able to support people in ways that other non-family owned business are incapable of doing. Statistically, people who work in family owned businesses are happier and their families and communities are more stable because of the stability in their employment and support they receive from these family owned firms. Family businesses are also greater contributors to the communities they do business in and are more trusted by the average citizen as a result. They know that by being a multigenerational business they must also become integral threads to the communities they live in.
Family owned businesses play an important role in providing economic stability. They are strong sources of employment and are critical to our economy. The average American trusts them more than any other business form. We should do everything we can from a policy perspective to support family businesses in being foundational stewards of the communities they do business in.
III. The FEUSA Survey
FEUSA surveys family businesses each year to understand the issues they are facing. Input to the survey comes from both members of FEUSA and non-members so that we may have a broad understanding of the issues and can truly represent the views and concerns of hard working family owned businesses in the United States.
The majority of family business owners who responded to the survey are business owners who own companies that generate $50 million or less in revenue and 85% of the respondents employ less than 1,000 people. The respondents are diverse and consist of industries ranging from manufacturing and construction to transportation and healthcare. It’s important to know that 38% of these family owned businesses do not have wealth outside of the business. For these owners, the business is their nest egg and their legacy!
Statistically, only 30% of all businesses are passed from first generation to the second generation and only 30% of second generation businesses are passed on to third generation owners. Over 50% of the respondents to the survey are in their third generation. The majority of these respondents have strong structures in place such as formal boards and rely on family members as well as independent and external advisors to lead their businesses. Given the generational structures and long term focus 92% of these respondents give back to their communities and 61% of them encourage their employees to participate and contribute to their communities.
78% of these businesses experienced revenue growth in 2015 and they are confident about the business’ ability to increase revenue each year moving forward. Increases in revenue lead to net new jobs and 66% of these companies put plans in place to hire additional employees through 2016.
IV. Harm of Eliminating the Discount Valuations
Our survey this past year disclosed that Seventy-seven (77%) of participants see external influences such as government regulation, tax policy and the economic environment as a greater threat to the sustainability of a family business versus the internal issues such as family conflict. In spite of revenue and job growth, participants are concerned about government regulation of their businesses. Valuation discounts are critical to the stability and continuity of family businesses and their ability to grow their employment base and be contributions to their communities. Thus, eliminating valuation discounts will harm the ability of these business to grow and add net new jobs and sustain themselves as strong stewards of the communities they do business in. If valuation discounts are eliminated, many of the businesses that had survived from first generation and beyond will be impeded in their ability to continue to grow and could easily be forced to sell to pay taxes. Families that are adding net new jobs and being strong stewards of their communities should not be forced to sell to pay taxes. Furthermore, valuation discounts reflect reality in as much as anyone trying to sell a minority stake of a business will have a very hard time of finding a buyer and will have to offer deep discounts. And when taking that into consideration, eliminating the valuation discounts only eliminates a level playing field versus creating and supporting a level playing field for privately held family owned businesses.
Family businesses are uniquely structured to possess social, human and financial capital and as a result they are uniquely positioned to foster economic and social health in the United States.
As I stated earlier, only 30% of all family owned businesses survive from first generation to the second generation. Thus, policies should be established to support sustainability versus hindering it in a way that stifles the most significant part of our economy from adding net new jobs and continuing to be contributions to their employees, the families of the employees and the communities they do business in.
On behalf of Family Enterprise USA, I request the IRS to withdraw its proposed regulations.
Thank you for the opportunity to be here today and share about the positive impact family owned businesses make in our economy and our country.