Intergenerational handover of the family business

The idea of passing on the business you've spent a lifetime building to the next generation can be an extremely sensitive topic for family business owners - personally, family and company-wise. However, statistics warn that up to 70% of small and medium-sized businesses in the Czech Republic are family-owned, but only about one in three can withstand generational change. The lack of a timely succession plan is often behind the low success rate - founders postpone solutions and suddenly find they have no one to hand the company over to. The result can be family conflicts or even the collapse of a hard-built business. This article clearly describes the legal options for intergenerational transfer of a company in Czech law, outlines the various options and the risks associated with not addressing succession in a timely manner. It also offers expert recommendations on how to proceed so that your life's work can continue successfully under the leadership of the new generation.

Author of the article: ARROWS (JUDr. Kateřina Müllerová, office@arws.cz, +420 245 007 740)

Why deal with succession early

Handing over a family business to successors is not only a technical and legal act, but also an emotionally challenging process - the business is often the "family silver" for the founder and the idea of giving up control is a worrying one. Many owners naturally question whether their offspring are capable of running the business, whether they are interested in the business at all and how to avoid disputes between children. These questions are entirely appropriate. If succession is not addressed early, there are unpleasant consequences: the successor generation may lose interest in the family business or go their own way in the meantime, key employees may leave the company due to management uncertainty, and in the worst case, an unprepared company may go out of business after the founder leaves.

Experience shows the importance of early planning - according to surveys, almost 2/3 of owners plan to pass the business on to their children, but only about 33% of family businesses actually succeed. The reason for this is precisely the absence of a succession plan and underestimation of preparation. Often the solution is left to the last minute, when the owners only realise that they have no one to pass the business to or do not know how. Therefore, it is advisable to start thinking about the future of the company as early as possible - ideally while the founder is still actively managing the business and can influence the smooth transition himself. This way, they can be sure that the fate of the company and the family assets is taken care of, even if unexpected events occur.

Legal options for the intergenerational transfer of a company

The Czech legal system offers several options for the transfer of a family business. Each has its advantages, disadvantages and tax specifics. These may include donation or sale during lifetime, transfer by inheritance (will or inheritance contract), use of a trust fund and possibly the establishment of a family holding company. We will discuss each of these options in more detail below.

In all cases, these are major legal steps that need to be carefully planned and executed correctly - so it is advisable to work with a lawyer to ensure that all documents and procedures are in order.

Transfer of shares during life: donation or sale

One of the most common ways of passing a business to the next generation is to transfer the business share or shares to descendants during the founder's lifetime. This transfer can be made gratuitously (by gift) or for a consideration (by sale) - the choice depends on the family's preferences.

Legally, the transfer takes place on the basis of a written share transfer agreement, which must comply with the requirements laid down by law. The signatures on the contract must be officially certified and the transfer is then entered in the commercial register. In the case of limited liability companies, the provisions of the memorandum of association must be respected - the memorandum of association may make the transfer of shares subject to the consent of the general meeting or the pre-emptive rights of the existing shareholders.

The advantage of a lifetime transfer is the possibility of a gradual generational exchange. The founder may initially retain part of the shareholding (e.g. a controlling stake) and transfer the remainder to the children in order to continue to oversee the running of the company. If they prove successful, the rest of the shares can be transferred to them over time. In practice, there have been cases where the owner has split his 100% shareholding and initially passed on e.g. 2×10% to two children and only after some time, when it became clear that they can work together, passed on another part. Such a procedure reduces the risk of the company passing into inexperienced hands - successors gain experience gradually. The founder can also embody his requirements and values in a shareholders' agreement or a family constitution where the family sets the rules of operation after generational change (e.g. principles of decision-making, profit-sharing, dispute resolution, etc.). This will avoid confusion and increase the chances of harmonious cooperation between the new generation.

Tax implications. In contrast, the sale of a share is standard taxable income for the seller; however, there is a time test for exemption for individuals. If this time limit is not met, any gain is taxed at the income tax rate. Thus, a transfer within the family is relatively tax friendly, especially in the form of a gift.

Transfer of a company by inheritance (will or inheritance contract)

The second option is to leave the transfer of the company until the death of the founder, i.e. by inheritance. In this case, the share or shares pass to the heirs at the time of the death of the testator (unless the company's articles of association exclude the inheritance of the share). If there are several heirs, they become co-owners of one share until the settlement. The testator can influence who gets the company by making a will - in it he can, for example, bequeath the business share to a particular descendant. Another instrument is the contract of inheritance, which is also allowed by the new Civil Code (it allows to contractually bind the heirs to accept the inheritance already during the testator's lifetime). However, even the will and the contract of inheritance do not exclude the rights of the so-called non-nominal heirs - the direct descendants are always entitled to the obligatory share (half of the legal share for adult children), unless they are validly disinherited, which practically means that the company cannot be completely denied by the will to one of the children without receiving at least adequate financial compensation.

Risks and pitfalls: Leaving the solution up to probate carries certain risks. Probate proceedings can take months or years, during which time business ownership and decision-making may be in doubt. While legally the heir exercises the rights of a shareholder from the moment of death, the appointment of a new managing director or major decisions, for example, may be delayed until the heir is formally confirmed by the court. If more than one descendant inherits the company, disputes over management may arise, which can seriously damage the company. The law also takes into account situations where the heir does not want to become a shareholder: he can ask the court to cancel his participation in the company within 3 months of the end of the proceedings. The company will then pay him a settlement share. Some companies also have an exclusion in the articles of association to avoid unwelcome shareholders from the extended family. In this case, the heirs are not entitled to the share and instead receive a financial compensation (settlement share) equal to the value of the share on the date of the deceased's death. While this will protect the company from unwanted owners, it may jeopardise its liquidity if it has to pay out a large sum.

Tax implications. The only fee payable is the notary's fee for the probate proceedings, which is calculated on the value of the entire estate.

Trust fund (family trust)

An increasingly popular instrument for the intergenerational transfer of family businesses is the trust. This institute was introduced into Czech law by the Civil Code of 2014 and since then more than 2,000 trusts have been established in the Czech Republic, the vast majority of which serve family purposes. A trust fund operates similarly to a family trust: the assets allocated to the fund cease to have an owner - the fund is a collection of assets without legal personality, managed by a trustee for a specific purpose. The settlor of the trust (the business owner) draws up a contract establishing the trust, or the trust can be established by a death provision (a will or a succession agreement with a trust provision). Business shares, stocks, real estate and other family assets can be placed in the fund. The fund is created by registration in the register of trusts and is governed by a statute, which is a document containing the rules of administration and the designation of the beneficiaries. Beneficiaries are typically family members who will benefit from the assets of the trust (e.g. profits of the company) without necessarily making direct decisions about its management.

The main advantage of a trust is to preserve the continuity of the company and protect against ownership fragmentation. Since the assets contributed are no longer owned by the individual, they are not subject to succession proceedings after the death of the deceased, and the company can continue to operate undisturbed according to pre-determined rules. The fund also allows the rules to be clarified for future generations - the founder specifies in the statutes how profits are to be distributed, who may act for the fund and how changes in administration will occur. This can avoid potential family disputes and ensure that only a designated group of people (e.g. only descendants of the founder) benefit from the family business in the long term. The original owner may still retain somecontrol over the company if, for example, he or she is to become one of the trustees (but the trust must have at least one other trustee), or reserve the right to appoint and remove trustees as necessary.

A trust fund is therefore a suitable solution, for example, if you cannot or do not want to pass the company directly to your children or sell it. It is often used if the offspring are too young or inexperienced, or if the family prefers to manage family assets jointly rather than splitting them up. It is important to choose the trustee carefully - they will make most of the decisions affecting the future of the trust. This can be a professional (e.g. a solicitor specialising in trusts) or a person close to the family who is trusted by the settlor. In practice, it is best practice to appoint several trustees, at least one of whom is an independent professional. The trustees can then check on each other and ensure compliance with the statute and the law.

Tax and administrative aspects: although a trust sounds complicated, it is not dramatic from a tax and accounting point of view. The creation of a trust and the transfer of assets into it for family purposes is generally not subject to tax (by contributing assets to the trust, the settlor does not make a taxable gain and the beneficiaries generally receive the benefits only gradually). Income generated by the assets in the fund (e.g. profits from the business) is taxed at the fund level at the standard corporate tax rate and may be taxed similarly to dividends when paid to the beneficiaries. The advantage is that a one-off transfer of the business to the fund does not trigger transfer tax (it is not a sale or ordinary income) and the assets set aside are not subject to inheritance tax (inheritance title does not apply). The founders and trustees therefore do not have to worry about the excessive bureaucracy involved in running the fund. Of course, the costs of setting up the fund (for drafting the statute, registration fee, advisers' remuneration) and ongoing administration costs must be taken into account, but these are generally seen as a reasonable price to pay for keeping the family wealth together for future generations.

Family holding and family constitution

An alternative way to organise assets for future generations is to create a family holding company and draw up a ' family constitution' . A family holding means that the family businesses are brought under one umbrella company (the holding company) in which family members have shares. The family constitution is then a document (a moral obligation rather than a legally enforceable contract) that articulates the shared family values, vision, rules of succession and the involvement of family members in the business. In the Czech environment, this solution is not yet so widespread, but it is gradually gaining attention, especially among larger business families.

The advantage of family holding is that the family retains direct control over the company and assets. Unlike a trust, there is no external trustee involved - all decisions remain in the hands of the family members. A holding structure can allow for more transparent management of several different activities (e.g. when a family owns several companies or properties). A family constitution then helps to avoid conflicts by setting out the rules in advance: who can be involved in management and under what conditions, how the management of the company is elected, how profits are handled, how any disagreements are resolved, etc. It can also articulate mechanisms for sanctions for undesirable behavior (e.g., paying off offspring if there is a fundamental violation of values). While the constitution is not legally enforceable as a law, it functions as a strong agreement within the family - everyone knows where they stand.

Legally, creating a family holding company involves restructuring ownership (e.g., creating a new joint stock company or LLC to which shares in operating companies are transferred). This is again an exercise that should be carried out with the assistance of lawyers and tax advisors to ensure that the transfers are tax-free (often the institution of company conversions or share exchanges are used, which are tax-neutral). Holding the family business through a holding company does not in itself solve the generational change - the transfer of shares to the holding company must be dealt with subsequently, which is then done through one of the channels described above (donation, sale, inheritance, trust). However, holding will allow the company to be transferred as a whole within one entity and the family can better coordinate the process. In addition, a family constitution can reinforce a sense of responsibility in the successor for a unified vision across generations.

Summary of options: each of the above routes - direct transfer, inheritance, trust or holding - has its place in practice. It is not uncommon to combine the different instruments (e.g. to give part of the share and put part in a trust, or to set up a family holding and put it in a trust, etc.). It is important to choose a tailor-made solution for the specific family and company. The following section therefore focuses on the factors to be considered in doing so, in particular the tax implications and the risks of not addressing.

Risks of not addressing succession and other pitfalls

"What would happen to the company in the event of my sudden demise? Unfortunately, this is a question that many entrepreneurs ask themselves late, or not at all. If the handover scenario is not thought through, an unexpected illness or death can cause a serious shake-up in the running of the business. The company may temporarily become paralyzed by decision paralysis. Family members may come into conflict if they are unclear about roles and entitlements. Family relationships tend to be emotional, and these conflicts can then destabilize the firm much more than normal business problems. There is also a risk that, without a unified vision, heirs will divide the business between themselves and go in different directions - the result can be a fragmentation of a once thriving entity.

There is also the risk of disinterest from descendants in taking over the business. Today's younger generation often does not want to spend all their time at work like their parents. If parents delay their children's involvement in the business, the offspring may in the meantime develop a career outside the family business and takeover of the business may not be appealing to them. Owners in some industries struggle to find successors - the young see the business as too challenging or uncertain. Last-minutetime pressure then leads to hasty and wrong decisions that can damage the business.

Reputational and business risk is also worth mentioning: family businesses often benefit from the image of a family business with a strong story, which customers appreciate. If the business has to change hands hastily or disappear altogether because of a botched handover, not only will the family name be lost, but also the trust customers have built up over generations.

A summary of the risks of not addressing succession in a timely manner:

• Unexpected departure of the founder - threat of leadership chaos, frozen decision-making, succession litigation.
• Breakdown of family cohesion - conflict between siblings or widow/widower and children for control of the business.
• Loss of key employees - uncertainty about the future can lead to the departure of managers and experts.
• Decline in company value - long succession proceedings or internal disputes can cause loss of business opportunities and a decline in the value of the business.
• Failure to take advantage of tax benefits - delayed resolution can make optimisation impossible (e.g. lifetime gifting is missed and shares are lost to complicated settlements).
• Possible liquidation or forced sale - as a last resort, if no one is able to take over the business, the business may be sold at a disadvantage to a competitor or go out of business.

All these risks can be significantly reduced by early preparation. Succession should not be treated as a taboo subject - on the contrary, open communication within the family and the involvement of legal professionals can protect family relationships and the business itself.

Recommendations: how to successfully hand over a business

1. Start early and plan the process as a project. Do not leave succession considerations until late in life. Ideally, start planning when the founder is in his or her 50s, when he or she still has the energy to pass on the experience and at the same time the generation of potential successors has matured. It is advisable to spread the handover over a number of years - define milestones (e.g. involvement of children in the management, gradual transfer of shares, handover as managing director, etc.) and tailor the legal steps to these.

2. Involve the family and communicate. Succession involves the whole family, so open the topic with them early on. Find out who among the descendants is interested in the company and what their ideas are. If more than one child wants to run the business together, discuss how they will divide the roles. If, on the other hand, one of the offspring is not interested in participating, it is better to know this in advance and look for other solutions (e.g. provide him/her with a share of the profits or financial compensation, but entrust the management to a sibling(s) or a professional). Emphasise the need for open communication and listening - surprisingly many problems result in no talk of succession and just an assumption that the children will 'take the reins'. Regular family meetings over the future can prevent misunderstandings and strengthen trust.

3. Prepare the successor (not only in terms of ownership, but also in terms of management). A successful handover is not just about signing contracts, but more importantly about passing on know-how, contacts and responsibilities. Involve your children in the running of the company as early as possible, gradually delegate project management to them, introduce them to key clients and partners. Allow them to gain experience outside the family business (internships, working elsewhere) - they often bring a new perspective to the company. The successor should be respected by the employees, so it's a good idea for the founder to introduce them in advance as the future leader. Consider setting up a family council or supervisory body, including representatives of the older generation or external mentors - they can advise the young boss while ensuring that family values are upheld.

4. Use experts - lawyers and tax advisors. The legal aspects of a business transfer are complex and any mistake (an invalid contract, failure to obtain approval from the authorities, a poorly handled option, etc.) can have fatal consequences. Therefore, the basic recommendation is always to seek the advice of an experienced lawyer before the actual transfer. A lawyer will help you choose the optimal course of action (e.g. whether to make a gift or rather set up a trust), prepare high-quality contracts and ensure that the legal conditions are complied with. Likewise, a consultation with a tax advisor will reveal potential tax implications and savings opportunities - especially for larger companies, it pays to structure the transfer so that there are no unexpected tax consequences (the advisor can suggest the use of exemptions, timing of steps, or an intergenerational conversion of the company using tax exemptions). Professionals can also help with drafting a family constitution or setting up mechanisms to protect the family business (e.g., pre-emption rights between siblings, prohibiting the transfer of shares outside the family for a certain period of time, etc.).

5. Be clear about goals and be prepared to compromise. Be clear about what you want to achieve by achieving succession - is your priority to preserve the family legacy at all costs, to provide financially for old age, or simply to ensure the long-term prosperity of the business (even under someone else's management)? Choose your strategy accordingly. Sometimes the best solution may be to sell the business outside the family - typically when descendants are not interested and no trustee will replace a dedicated owner. Even such a move is better made in a planned rather than forced manner. But if the goal is to continue the family tradition, expect that compromises will have to be made. You may have to step back from your ideas and give your children the benefit of the doubt, even though you might have acted differently yourself. Conversely, successors should respect the founder's legacy and realize that taking over the family business is both a privilege and a commitment.

Conclusion: secure the future of your business today

The intergenerational handover of a family business is undoubtedly one of the most important steps in the life cycle of a business. It is also a step that cannot be rushed or delayed - it requires careful preparation at the legal, financial and human level. The good news is that Czech law offers a number of tools to implement succession according to the needs of the family. Whether you choose to donate a share, make a will, set up a trust or some other option, always keep in mind that this process needs to be carried out "as perfectly as possible " - ideally with the help of specialists.

Don't wait until circumstances force you to act under pressure. Start succession planning now. Talk to your family, clarify your priorities and don't hesitate to reach out to an experienced attorney or tax advisor. Professional assistance can help you avoid mistakes and find solutions that will ensure your business continues to thrive after you're gone. By addressing succession early, you will protect your life's work and give your children (or other successors) a chance to build on your success. A family business, passed on with discretion and love, can continue to grow and thrive - and that's the best reward for all the years of effort.

Think today about what your business will look like in 5, 10 or 20 years. Do you have a plan for who will lead it? If not, schedule a consultation. We'll help you set up a succession strategy to keep the business in good hands and the family in harmony. The earlier you start, the more peace of mind and certainty you'll have for the future - for yourself, your family and your employees. Your business deserves it.