Author: dsauder

Why Your Last Will Might Not Accomplish What You Want

By Nevin Beiler, Attorney

A large part of my law practice is preparing Wills and sometimes Trusts for people of all ages. Young couples are often concerned about having a plan for guardianship of minor children, or that ownership of a business would pass to a surviving spouse if one spouse would die. Older people are usually more concerned about appointing executors and ensuring the fair and orderly distribution of their assets after they pass away. Whatever stage of life we are in, having a current Will is a good idea.

What many people don’t think about, however, is that Wills have limitations. People often think that whatever their Will says is what will happen to their stuff after they die. However, that is not always true.

I recently observed a situation (with which I was unable to assist because of the distance from my office) that illustrates how things can go wrong even when a person’s Will appears to say what the person wants to happen after they die. I have substantially changed some of the facts of the following story to protect confidentiality, but the illustration is true to life.

The Story

There was a middle-aged man who was an only child, and who was in charge of settling his father’s estate after the father died. The father owned a duplex property jointly with his younger sister (the son’s aunt). When they originally bought the duplex, the father thought that he’d like his sister to get the whole duplex if he and his wife died before the sister did.

The sister had never married, and she lived in half of the duplex. Some years later, after his wife had died, the father decided that he wanted his son to receive his share of the duplex when he died, so he wrote a will that directed that his share be given to his son, not his sister. He did not inform his sister of this. The trouble was, the deed for the duplex included the words “joint tenants, with right of survivorship.”

Also, the father wanted to leave a portion of his IRA account, which totaled a little over $200,000, to his sister, and the rest to his son. The father told this to his IRA custodian, who helped him sign a beneficiary designation that directed that when he died 25% of the IRA should go to his sister, and the rest to his son. The father also later told his attorney that he wanted $50,000 to go to his sister, with the intention that it come from his IRA account, so the attorney wrote in the father’s Will, “I give $50,000 to my sister. This amount may be withdrawn from my IRA account.” In addition to the duplex and the IRA account, the father died with about $90,000 in his checking account.

As far as the father was concerned, his plan was clear and exactly how he wanted it. The Will stated that the son would get half of the duplex, and both the IRA beneficiary designation and the Will indicated that the father’s sister would get $50,000, to be paid from the IRA account. The son would get everything else. But as we’ll soon see, things were not going to work out as the father had planned.

The Problems

What many people don’t realize, or perhaps just fail to think about, is that a Will does not necessarily direct what happens to everything that a person owns. Actually, there are many things that people commonly own that might not pass according to the direction of their Will when they die.

For example, a house that is jointly owned with a right of survivorship automatically passes to the surviving owner when one owner dies. This is what happened in our story, meaning that the sister automatically became the owner of the whole duplex, instead of the son getting half of it like the father’s Will stated. The duplex was simply not subject to the directions of the Will. Instead, it passed automatically based on the language in the deed.

Another example is an IRA account, and some other types of investment accounts. These often are transferred by a beneficiary designation that an account owner signs, rather than by the account holder’s Will. In our story, the father signed a beneficiary designation that left 25% of his IRA account to his sister. This was not necessarily a wrong thing to do. In fact, naming beneficiaries of an IRA account can sometimes be a good thing for tax purposes. However, the father also stated in his Will that his sister should get $50,000 from his estate, with only a suggestion that the funds could come from the IRA account. This was likely a mistake in drafting the Will.

The son thought, and I agreed with him, that the father probably meant to leave just a total of $50,000 to the sister, not 25% of the IRA account plus $50,000 through his Will. However, the way things were written, the sister appeared to be legally entitled to both 25% of the IRA and $50,000 from the Will.

To make matters worse, the Will contained a generic tax clause that stated that all inheritance taxes owed by the estate, including for transfers not affected by the Will, must be paid from the residue of the estate. This meant that all the tax due on half the value of the duplex, and all the money going to the sister, was to be paid from the portion of the estate that the son was supposed to receive.

Now for the math. The value of the duplex was $220,000, meaning that the taxable portion (50%) was $110,000. The $50,000 gift stated in the Will and 25% of the IRA account totaled about $100,000, meaning that the total value going to the sister was about $210,000. The inheritance tax rate for transfers to siblings in Pennsylvania is 12%. Multiplying $210,000 times 12% equals $25,200. Plus, the son needed to pay taxes on his $150,000 share of the inherited IRA account and his $40,000 share of the father’s checking account, which at the 4.5% rate for children, would be about $8,000. From the $90,000 in the father’s checking account, the estate was expected to pay $50,000 to the sister (to satisfy the gift written in the Will) and about $33,000 in taxes. After funeral costs and estate administration expenses, there wasn’t going to be anything left for the son other than his $150,000 share of the inherited IRA account, which would also be subject to income taxes if he chose to withdraw any of it.

In total, the father’s sister would be receiving value of about $210,000, while the son would be receiving value of about $150,000. But from all the evidence, it appears that the father’s intent was for his sister to receive $50,000, and for his son to receive the rest, which would have been assets worth about $321,000 for the son. The son was not too pleased when he discovered this. He shared with me about how his father had been determined to make things clear and simple for his heirs by writing a Will that expressed his final wishes. Unfortunately, the father’s goal would not be accomplished.

The son tried to explain the situation to his aunt and propose an alternate settlement arrangement, but their relationship was not very close, and was sometimes cold. She was on a limited income, and was very reluctant to give up anything that she thought she was technically entitled to receive. Plus, she had all along been expecting to receive the father’s half of the duplex if she lived longer than him, because of the right of survivorship in the deed. And even if she agreed to give half of the duplex to the son, the higher tax rate (12% instead of 4.5%) would still apply, as well as real estate transfer taxes.

The Lesson

There is a lesson you can learn from this story, even if the unique facts do not apply directly to you. Where the father (and his attorney) messed up was failing to coordinate his Will with the ownership and beneficiary designations of his assets. The father should have owned the duplex as “tenants in common” with his sister if he wanted to be able to pass on his half of the property to his son through his Will. Also, he should have listed the $50,000 gift to his sister in just his Will or just his IRA (not both the way he did). Or, he should have made it clear in his Will that if he left money to his sister in his IRA that the gift to her in the Will should be disregarded or reduced.

When you have your Will prepared, it is important to understand which assets will be directed by your Will, and which assets will be directed by another means, such as by right of survivorship or a beneficiary designation. When these issues are known, your overall estate plan can address them properly. For this reason, it is important that your estate planning attorney knows the following information:

• How your real estate is titled. For example, whether you own property individually, jointly with your spouse, jointly with someone else, etc.
• Whether you have any financial accounts that are owned jointly with any person other than your spouse.
• Whether you have any financial accounts (such as IRAs or other investment accounts) that have beneficiary designations.

By paying attention to which assets pass according to the directions of your Will, and which assets are directed in other ways, you and your heirs can avoid the disappointment and confusion faced by the son in our story. Otherwise, your Last Will might not accomplish what you want.

Nevin Beiler is an attorney licensed to practice law in Pennsylvania (no other states). He practices primarily in the areas of wills & trusts, settling estates, and business formations & agreements. Nevin and his wife Nancy are part of the conservative Mennonite community, and Nevin previously served as the in-house accountant for Anabaptist Financial before leaving to become an attorney. Nevin’s office is located at 105 S Hoover Ave, New Holland, PA, and he can be contacted by email at info@beilerlegalservices.com or by phone at 717-287-1688. More information can be found at www.beilerlegalservices.com.

 Disclaimer: This article is general in nature and is not intended to provide specific legal or tax advice. Please contact Nevin or another attorney licensed in your state to discuss your specific legal questions.

Preface: If you are starting a new business, and you already have an existing business, then consult with your tax accountant regarding whether the businesses should be grouped for improved tax attributes.

To Group or not to Group

By Jacob M. Dietz, CPA

Are you a business owner? If so, how many different enterprises do you own? Frequently the owner of a business owns or partially owns more than one business activity. The other business activity or activities may be large or small.

In some of these situations, the owner may want to group these activities together to avoid passive treatment. If you own multiple activities, have you considered grouping them?

Passive Activities

First, the IRS may consider a business activity to be passive if the taxpayer does not “materially participate.” The full complexities and the details of passive activities are beyond the scope of this article, but generally the IRS will not allow the deduction of passive losses unless there is offsetting passive income of an equal or greater amount, or the activity is entirely disposed. There could be exceptions, however.

For an example of how the passive activity rules could work, let us imagine John owns two businesses. Business A is a restaurant, and John works full-time in the restaurant. Business B is a bakery across the street from the restaurant, and the bakery provides the restaurant with food. John hired an able manager for the bakery named Charlie, so John hardly does any work in that business. If the bakery and the restaurant were treated as separate activities, then John would be active in the restaurant but may be passive in the bakery. If the restaurant made money and the bakery lost money, then John might not be able to deduct the bakery’s loss until future years if he had no other passive income.

Depending on John’s taxes for the year, he may end up writing a large tax check to pay for his restaurant business while he is also investing more personal funds into the bakery to keep the money-draining bakery afloat.   Such a scenario would not please John.

Grouping of Activities

The IRS, however, does allow grouping of activities that form an “appropriate economic unit.” If the bakery and the restaurant had been grouped into one, then John’s work in the restaurant would count as material participation for the entire activity, thereby making the bakery’s loss nonpassive and potentially offsetting that loss against the restaurant’s income.

What constitutes an “appropriate economic unit?” There is some discretion in making this determination, but below are some factors from IRS Reg. 1.469-4 detailing some of the considerations.

“(i) Similarities and differences in types of trades or businesses;

(ii) The extent of common control;

(iii) The extent of common ownership;

(iv) Geographical location; and

(v) Interdependencies between or among the activities….”

 

Do you think John’s bakery and restaurant form an appropriate economic unit? The answer may not be 100% clear and involves some discretion, but John could probably honestly answer “Yes.” First, they both involve the business of food for human consumption. Second, John exercises control of both businesses, although he delegated daily responsibilities of managing the bakery to the able manager Charlie. Third, both companies have 100% common ownership by John. Fourth, the businesses are very close geographically since they are across the street from each other. Fifth, the operations of the bakery and restaurant are interdependent because the restaurant purchases baked goods from the bakery. John should have a strong case for grouping.

If John and his accountant had appropriately grouped the restaurant and bakery, then John might write a smaller tax check because the bakery loss would help offset the restaurant income.

Why Group?

As demonstrated in the hypothetical example about John, some taxpayers will want to group to offset losses against income. An entrepreneur that runs multiple businesses may find it hard to prove material participation in each venture to avoid the passive loss rules limiting passive losses to passive income. That same entrepreneur might be able to prove material participation in one venture. If appropriately grouped, then the entrepreneur materially participated in the whole group.

An entrepreneur might also group to avoid Net Investment Income Tax (NIIT) on the income. The NIIT was enacted as part of the tax changes that came with the Affordable Care Act. It charges a 3.8% tax on investment income for certain taxpayers.

Passive activities are classified as net investment income. Therefore, passive income from a second business could be subject to the NIIT. Let us go back to John’s bakery and restaurant. Now, assume that John did not group the bakery and restaurant, and assume that both businesses are profitable. In this hypothetical scenario, John now owes NIIT on the bakery income, which could be classified as passive. John may wish that he had grouped with the bakery, in which he materially participates, to possibly avoid the NIIT.

Why Not Group?

These groupings are permanent per the IRS regulations unless “a taxpayer’s original grouping was clearly inappropriate or a material change in the facts and circumstances has occurred that makes the original grouping clearly inappropriate.” Taxpayers should therefore exercise thought when considering grouping. It cannot be lightly changed.

One reason a taxpayer may wish to avoid grouping is if they already have an enterprise generating passive losses, and they want passive income generation. Remember the hypothetical bakery and restaurant owned by John? Now let us assume that the bakery and restaurant have been in business for several years, and they are not grouped. The bakery is passive, the restaurant is active. The bakery generates losses, but it is slowly moving towards profitability. Suppose John starts a new business, a coffee shop, that generates profits. It is run by a manager named George with little time from John.

John could potentially choose, in that first year, to group the coffee shop with the restaurant to make the coffee shop income active. John might choose, however, to let the coffee shop remain passive so that the passive loss from the bakery can be netted against the passive income from the coffee shop.

Timing of the Grouping

If you are starting a new business, and you already have an existing business, then consult with your accountant regarding whether the businesses should be grouped. If you fail to group them now, and later try to group them, the IRS might disallow that grouping. There is an exception to the regrouping rule which allows taxpayers to regroup the first time the taxpayer is subject to the net investment income tax.

Although there can be exceptions available to group later, do not simply count on an exception being available for businesses to group when desired. No entrepreneur has perfect knowledge of the future. The unknowns could make the decision difficult to group or not to group, but the entrepreneur could benefit if they consider in the first year whether to group.

Disclosure of the Grouping

In Rev. Proc. 2010-13, the IRS lists disclosure requirements regarding tax groupings. If the original grouping was made before Rev. Proc. 2010-13 was effective, then no disclosure may be required until a change is made. New groupings or regroupings after that date must be disclosed. If there is no disclosure, the IRS can generally treat them as separate activities.

What if it is discovered that a grouping has not been disclosed? The IRS does have a method that might work to remedy the failure to disclose. Contact your accountant if you think you may have some undisclosed groupings on your tax return which should be disclosed.

Even when the disclosure has already been made, the taxpayer may want to continue to disclose that grouping in each tax return. If done correctly, this may help inform the taxpayer and future accountants that there is a grouping in effect.

Are your business activities grouped? Should they be grouped? If you do not know, consider calling your accountant to discuss. If this is the first year for a new activity and you already have an existing activity, then think especially hard on the grouping decision.

This article is general in nature, and it does not contain legal advice. Contact your advisors to discuss your specific situation.

Preface: Should you sell your business in 2020 to a non-grantor irrevocable trust?  Such a sale will be taxed in 2020 at the current top federal capital gains rate of 20%.

Minimizing Tax on the Sale of Your Business or Commercial Real Estate in 2021 – Preliminary Sale to a Non-grantor Trust

Credit: Donald S. Feldman, CExP™, CPA, CVA, MBA

For the last two years, whenever anyone asked me about saving taxes on the sale of a business, I had a stock piece of advice: “Sell before the end of 2020”. We are living in a historically low tax environment in which we are also experiencing record government budget deficits. Even before the pandemic and the multiple trillion-dollar bailouts, the handwriting was on the wall. Higher taxes were on the way.

Now here we are near the end of 2020 and you haven’t yet sold your business. Perhaps the pandemic and the resulting freeze-up of the M & A markets prevented you from selling. Perhaps you finally have a deal to sell your commercial real estate but it won’t close until 2021. The immediate political outlook is uncertain. Biden campaigned on a platform of a 39.6% capital gains tax rate for gains greater than $1 million, compared to the current top rate of 20%. This would be an extraordinarily high tax hit on the once in a lifetime sale of your most valuable asset. But in order to have a working majority in the Senate (with VP Harris casting the deciding vote in a 50-50 Senate), the Democrats will need to win both Senate run-offs in Georgia. The January 5, 2021 Georgia Senate elections are attracting a tsunami of political money. It has already been dubbed the Super Bowl of political fundraising. In what would otherwise be a relatively low turnout special election, with so much at stake and both parties geared up, anything can happen. Even without a working majority, the Democrats might be able to pry loose a Republican or two to vote in favor of higher taxes.

Any new tax law in 2021 will almost certainly be retroactive to January 1, 2021. Considering that the sale of your business or commercial real estate is likely to be the biggest financial transaction of your life and on which your future financial security depends, the question you need to ask yourself is, “Do I feel lucky about 2021 tax rates”?

As it happens there is actually something you can do to lock in gains on the sale of your business or commercial real estate at 2020 tax rates – sell your business in 2020 to a non-grantor irrevocable trust. Such a sale will be taxed in 2020 at the current top federal capital gains rate of 20%. The business in the hands of the trust will have the higher basis of the sale price so that any sale in 2021 from the trust to a third-party will result in a nominal gain (or loss). A non-grantor irrevocable trust is essentially a trust that you, the business owner, do not control. “Nongrantor” is a term of art in the tax code. The “grantor” is the person (sometimes referred to as the trust “settlor”) who establishes the trust and contributes assets to it. Certain sections of the Tax Code (IRC 671-679) define the elements of control that makes a trust a “grantor” or “non-grantor” trust.

For example, if the grantor has the right to the income from the trust, or can designate who receives the income, or is entitled to a so-called “reversionary interest” (i.e. trust assets revert to the grantor on the happening of certain events) then the trust is deemed to be a “grantor” trust. If the trust has “grantor” status, then for tax purposes the trust is treated as identical to the grantor; the sale of the business to the grantor trust won’t be recognized because it is essentially a sale to yourself. Only if the trust has “non-grantor” status will the sale be recognized so you can lock in the maximum 20% tax rate.

So how do you get paid? The sale to a non-grantor trust in 2020 will be for a promissory note. When the trust sells the business in 2021, the trust will have the cash to pay off the note.

Sale of the business via a note means that you are eligible for federal tax purposes to use the installment method of reporting the sale – i.e. recognize gains based on the actual receipt of payments on the note. However, using the installment method will defeat the purpose of the tax planning, because taxes are likely to be higher in 2021 when you receive the cash proceeds. However, you can elect out of the installment method and choose to recognize all of the gain in 2020. You need to make this election no later than the extended due date for filing your 2020 tax return – October 15, 2021.

The downside risk here is if you execute a sale to a non-grantor trust in 2020 but fail to sell it to a third party in 2021, you might be stuck paying tax without getting cash. However, you can probably unwind the transaction in 2021. If you don’t sell in 2021, you can refrain from electing out of installment sale treatment and if the trust doesn’t have the cash to make payment on the note and defaults, you can get the business back.

Forming an appropriate non-grantor trust and documenting the transaction is complex. Be sure you are dealing with an attorney who is expert in trusts. Don’t try this one by yourself.

This article is general in nature, and it does NOT contain legal nor tax advice. Please contact your accountant or trusted advisor to see what applies in your specific situation.

“Don Feldman’s success as an Exit Planner rests on three essential elements. (1) Don “gets” the needs of business owners. (2) He has created and constantly adds to a tool box chock full of proven planning strategies and ideas. (3) His ability to deconstruct, demystify and explain complicated tax and valuation issues in a way that owners–and even attorneys like me!–can understand.”— John Brown, Founder, Business Enterprise Institute, Denver, CO

www.keystonebt.com

 Preface: If you don’t believe it or don’t get it, I don’t have the time to try to convince you, sorry. – Satoshi Nakamoto

Virtual Currency: Looking Forward

Credit: Donald J. Sauder, CPA | CVA

The virtual currency ideal began conceptually in the early 1980s when David Chaum, while studying at Berkley, wrote a research paper on online advancement possibilities for economic payments and transactions with a system called eCash. In the early 1990s, he developed a second system called DigiCash that used virtual processes to make economical transactions.

As the forerunner of the virtual currencies, DigiCash was unable to scale successfully as the company lacked cohesive direction, partnerships with large financial institutions, and the fact that the internet and smartphone technology had not yet fully integrated with e-commerce. The archetype DigiCash disappeared from the virtual currency space after a Y2K coding glitch, and the intellectual property was sold, with an interesting footnote, to the ubiquitous online virtual payment space PayPal.

One defining feature of a virtual currency is that it is not issued by a central authority and backed by a central bank or authoritative organization. The United States government assigns responsibility for counterfeit money and other currency-related regulation to the United States Secret Service. Therefore the faith to transact in US dollar currency is maintained confidently without substantial fear of counterfeits.

On the contrary, virtual currencies are consequently effectively immunized from authoritative regulations, have no governing group to prevent loss of confidence, and are the Chief Shehaka’s developing western frontier of speculative virtual contrarians. Financial regulators are increasingly opposed to virtual currencies since they facilitate cross-border transfers, money laundering, tax avoidance, and other fraudulent financial practices.

With the omission of an authoritative security framework with virtual currencies lacking such inherent and government umbrella protections, certain risks are inherent in any virtual currency transactions, as outlined as follows.

Hackers can drain virtual currency wallets, and users and investors are entirely reliant on computer security systems and third-party systems. This lack of substantial internal control can lead to stolen passwords or compromised passwords with the same or similar effect as being denied access to an impenetrable vault with valuables. If a virtual currency wallet key is lost from operational risks with cryptography or stolen perhaps, the original account owner’s virtual assets will be lost forever, devoid of remedial measures. There are no safety nets or reversible transactions in the virtual currency system.

Market risks are also present with virtual currencies, and a lack of transactional liquidity and market manipulation can result in speculative volatility to the virtual asset value. Tax risks with Foreign Bank Account Reporting with virtual currencies stored abroad are also applicable and necessitate compound tax compliance factors.

While the Federal Reserve doesn’t have the authority to supervise or regulate virtual currencies, such as Bitcoin, Ethereum, Ripple, Litecoin, Tether, and EOS, it has not stopped virtual currencies from progressing and creating wealth for miners and speculative currency investors. Interestingly, the true legend of Bitcoin is the person credited with developing it, Satoshi Nakamoto may not be a real person, as no one has every met them. The name is likely a pseudonym for the creator or creators of Bitcoin who wish to remain anonymous.

Virtual currencies are here to stay. Legendary investor Jim Rogers has stated that virtual currencies will likely meet government defense departments’ force one day in the future. At that time, economies will experience a currency transformation, unlike any in human history.

Instituting appropriate compliance with relevant tax laws on pertinent virtual currency transactions, and being wary of the risk(s) is therefore advised. Please contact your tax advisor if you own virtual currency.

This article is general in nature, and it does not contain legal advice. Please contact your accountant to see what applies in your specific situation.

“Stay away from it. It’s a mirage, basically. In terms of cryptocurrencies, generally, I can say almost with certainty that they will come to a bad ending.”  –  Warren Buffett

Taxation of Bitcoins and other Virtual Currency

Credit: Donald J. Sauder, CPA | CVA

In recent years, The Internal Revenue Service has now issued a decree that all virtual currency transactions are henceforth taxable. This includes Bitcoin, Ethereum, Ripple, Litecoin, Tether, and EOS. Concerningly, to tax advisors in the age of information, many virtual currency users continue to be unaware of the increased non-compliance risks and continue to blissfully transact with any number of virtual currencies absent consideration of IRS tax implications.   

The IRS classifies virtual currency as a digital representation of value, other than a representation of the U.S. dollar or a foreign government authorized currency that functions as a unit of account, a store of value, and a medium of exchange. Some virtual currencies are convertible, which means that they have an equivalent value in real currency or act as a substitute for real currency; and are a digital medium of exchange, such as digital currency and cryptocurrency.

Cryptocurrencies are a type of virtual currency that utilizes cryptography to secure transactions digitally recorded on a ledger, such as a blockchain. Units of cryptocurrencies are generally called coins or tokens.

Fortuitously, the IRS has instituted property tax laws to virtual currencies instead of currency for federal tax purposes. Therefore, in exchanges of one virtual currency for another, while a taxable transaction is subject to propitious capital gains taxes instead of higher ordinary income tax rates.

However, mining activities for virtual currencies and payments received for services from virtual currency payments representing earnings income may be ordinary income tax rates. You join a group of virtual currency miners, and your share of electricity is $10,000, and you receive $17,000 of coin value. You will have $7,000 of ordinary taxable revenues for IRS purposes.

Payments for services as an independent contractor from virtual currency are subject to self-employment income and self-employment FICA taxes. Additionally, wages or salaries paid in virtual currency are per the IRS code remuneration for employment tax purposes and subject to federal income withholding and both FICA and FITA reporting. Since Federal taxes on the IRS form are subject to U.S. dollar currency values, the income you must be recognized is the fair market value of the virtual currency in U.S. dollars when received if you’re receiving payments for services in the virtual currency, you’re advised to keep costs tabulated and tax implication measures.

The IRS continues to closely monitor the growing fields of virtual currency exchanges, and in 2017 they investigated Coinbase. Coinbase’s extensive crypto exchange has almost 6 million registered members and fewer than 1,000 of those filed a tax return for implicit gains on the virtual currency. Following a legal directive, Coinbase delivered a few thousand names to the IRS. A corresponding number of IRS letters were issued to virtual currency account holders issuing a warning. They would be advised to begin tax compliance before an audit as a good faith encouragement. Taxpayers incorporating virtual currency transactions are advised to regularly consult with their tax advisors on increasing tax compliance and regulations to keep apprised of tax law revisions regarding virtual currencies.

Also, paying for services with virtual currencies held as a capital asset, upon the exchange will incorporate a taxable transaction with either a reportable capital gain or loss. Virtual currency received as a gift will not be recognized as income until exchanged or sold. If you cannot substantiate the donor’s basis, your tax basis is zero in the virtual currency property. The capital gain on virtual currency gifts is either the day you receive the gift or the day from documentation substantiating the donors holding period of the virtual assets.

A charitable organization receiving virtual currency donations will attribute such gifts to non-cash contributions and advised to consult with a tax advisor before embarking on such contribution receipts.

Preface: “Talent wins games, but teamwork and intelligence win championships.”  Quote from Michael Jordan

Are Leading Entrepreneurs Considering the Ants? (Segment IV)

Credit: Donald J. Sauder, CPA | CVA

Teamwork

Ants, like robots, have an innate talent to work admirably as a team. Ants carry upwards of an incredible fifty times their weight. Ants travel in large numbers when hunting or farming, and this gives them a significant probability of warding off risks that individually would be insurmountable. Again, together ants can accomplish what would impossible individually, from defending the colony to vast territory hunting and farming collection activities. Ants very infrequently can join a new colony. If an ant colony is destroyed or an ant is separated from their native colony, most new colonies will reject the foreigners. However, infrequently, if the captive orphan ant can contribute successfully towards the new colonies’ progress, they will be adopted. This gives ants fierce loyalty to their fellow members and teammates in their native settlement. Ants understand and appreciate their position and responsibilities in their colony and peacefully conduct their activities unless threats occur to the colony’s status quo.

Google is a ubiquitously known organization in both households and businesses, and one quest that they continually invest in is to understand teams better. Project Aristotle was one such specific initiative for this purpose. Many Google executives believed that building the best business team was to assemble the best people into a group. You combine the best engineers, MBA’s and Ph.D.’s, and you’ve automatically created the best team for a business.

The collaborative research resulted in struggling with the lenses in ideas and practices to determine a great team’s characteristics leading to a conclusive five key points that top teams exhibit. 1.) Dependability: A successful team member must be dependable and get things done on time and within expectation. 2.) Structure and Clarity: High-performing teams have clear goals and well-defined roles within the group. 3.) Meaning: The work has personal significance for each member. 4.) Impact: the group believes their work is purposeful and positively impact the greater good. 5) Psychological Safety: the Project discovered unnervingly that quantitative data alone, as may be hoped, was not the core platform of great teams, such as superior IQ, credentials, and education.

Google discovered with Project Aristotle that they began to make noticeable breakthrough progress when they started looking at specific intangibles of the teams, such as group norms. The researchers’ recurring progress was in part from analyzing the existing research theme from earlier psychologists and sociologists that reflected on “group norms” – the traditions, behavioral standards, and unwritten rules that govern how teams function when they gather.

Group norms can be unspoken or openly acknowledged, but their influence is often profound. Therefore, business teams assembled with safe zones for employees, where they feel secure from seeming incompetence, or other fears of risk in voicing their opinions, or asking judgment-free questions or other danger(s) and insecurities from a lack of shared group norms, was the underlying foundational component for a business to a building and excel with a dream team.

In entrepreneurship, shared “group norms” are one of the big secrets to great teamwork.

Ants also exemplify perfectly one of the greatest secrets of successful and champion teamwork aligned and similar to “group norms”– the right chemistry. The “Miracle on Ice” U.S Hockey team of 1980 was chosen based on chemistry and not talent alone. We can learn from Malcolm Merkin who wrote the following in his article How Teamwork Led Mike Eruzione to Olympic Victory 

(In the 1980 Winter Olympic Games), Twenty-five-year old captain Mike Eruzione played a prominent role in bringing home the gold for the USA (and from) Soviet professionals. Eruzione’s parents taught him to pursue and expect success, but not to take anything for granted. Sporting his older sister’s white hand-me-down figure skates, the future gold medallist learned to skate on the sand traps of a nearby golf course.

Since his mother would not allow young Michael out on the lake with the older kids, iced-over sand traps provided an excellent training ground for a small but determined, Eruzione. By the age of eight, he had demonstrated that he was committed to becoming a hockey player, so, with saved up S&H green stamps, his mother bought him a pair of bona fide hockey skates. “The only rule that we had around the house was that if you signed up for something, you had to commit yourself to work hard and stay with it.

You couldn’t quit the team or pout if you didn’t score any goals. It was a case of playing because you wanted to enjoy yourself.”…. I wouldn’t come home and say `I’m the best player on the team,’ or `I’m going to be a pro player because I’m better than the next guy.’ I always took things in stride and was part of a team. To me, the team was always more important than how well I was playing.”

Both Olympic teams in the famous US Olympic victory were chosen for their teamwork chemistry instead of individual sheer talent. Ants excel at shared group norms and importantly the chemistry feature of teamwork. The ants have no personal ego, pride, or other individual motives in their endeavors, because of supposed superior ability.

The worker ant’s dedicated teamwork focus is on the commitment to the successful furtherance of their colony. That teamwork approach has helped them successfully thrive for millenniums. This is team “chemistry” and “group norms” core component is genuinely most clearly evident among successful family entrepreneurial teams. Likewise, when (entrepreneurial) teams are procured with the right chemistry, amazing things happen that talent alone cannot achieve.

 

Preface: I believe that robots should only have faces if they truly need them. Quote from Donald A. Norman

Are Leading Entrepreneurs Considering the Ants? (Segment III)

Credit: Donald J. Sauder, CPA | CVA

Set Deadlines

Ants know what task(s) they are responsible for as members to further the colonies’ vitality. Because they are respectable, responsible “social entrepreneurs,” they approach each colony’s responsibility or task with fastidious and accountable action. There isn’t time to be lazy in a nation of ants or time to look for short-cuts of responsibility or shifting the burden. Ants exhibit the same 20-Mile March theory outlined in the business book Great by Choice. This is steady, consistent, and uniform progress towards the project destination or goal, day after day, and month after month.

Those readers who have had the privilege to enjoy a homework assignment in school will understand the pressure of deadlines. Classroom success requires preparing the essay before a particular class day or have today’s lessons designed before class tomorrow. Sometimes multiple mid-year exams were on the same day. The ultimate goal of these individual classroom deadlines is for responsible participants to understand thoroughly the concepts being taught to be prepared for the final class examination(s).

When an (entrepreneurial) project matters, and that is most of the time, assigning project deadlines and focusing those resources involved and responsible for prioritizing time to complete that task or project either individually or as a team effectively, whether preparing an ice-cream cone for sale or painting a vehicle. The planning and accountability on a project deadline can help keep workload appraisals realistic.

Project deadlines help manage scheduling with preventions extra projects or meetings that could interfere with a deadline. Unfortunately, some managers drive deadlines and project workload expectations that require 101% or 110% from the team to achieve. This compels long hours and stressful work expectations and can lead to eventual failures in diminished energy for a team’s long-term success. Although on the contrast periodically from time to time, extra demands are typical of many roles. Procrastinators often fail in environments with tight deadline expectations, and being responsible for nonessential projects or task specifics are more appropriate for team management.  

Keeping project completion deadlines and achieving them on schedule and budget are the fields of top-teams. When used effectively, setting realistic deadlines and completing them successfully can provide the satisfaction of a job well-done, and the sweet taste of achievement, as enjoyed by leading performers. The setting, keeping, and achievement of realistic deadlines satisfactorily reveals the true capabilities of any team.

Division of Work

Henri Fayol, who started his career as a mining engineer in France in the 1860s, and eventually became director of a company with more than 1,000 employees, developed Fayol’s 14 principles of Management. The first of those 14 principles is the division of work. During the Dark Ages, markedly concluding with the Bubonic Plague that brought a profound shift to the world from the effects of an array of social, economic, cultural, and religious changes in ways of life – blazed the trail towards a new ear, leading to the Renaissance. This was the beginning bud of the most significant epochs for art, architecture, literature in human history, and the early blossoms of the division of work. This concept of division of work was introduced early in Plato’s Republic “Well then, how will our state supply these needs? It will need a farmer, a builder, and a weaver, and, I think, a shoemaker and one or two others to provide for our bodily needs”.  Yet, until the years of the Renaissance, these concepts gained limited mileage towards more free markets, and therefore the division of work that is enjoyed in today’s economies. 

Friedrich A. Hayek, in the written work The Use of Knowledge in Society first published in September 1945, proposed that a centrally planned economy could never match the efficiency of the open market because what is known by an individual member of society is only a small fraction of the sum of knowledge held by all members of the community. 

A decentralized economy thus complements the dispersed nature of information spread throughout society. Quoting “The price system is just one of those formations which man has learned to use (though he is still very far from having learned to make the best use of it) after he had stumbled upon it without understanding it. Through it, not only a division of labor but also a coordinated utilisation of resources based on an equally divided knowledge has become possible. The people who like to deride any suggestion that this may so usually distort the argument by insinuating that it asserts that by some miracle, just that sort of system has spontaneously grown up, which is best suited to modern civilisation. It is the other way round: man has been able to develop that division of labour on which our civilisation is based because he happened to stumble upon a method which made it possible. Had he not done so, he might still have developed some other, altogether different, type of civilisation….”

One ant study performed with the observations of organizational researchers objectively proved that in one ant colony, a single ant transported 57% of all items moved in a colony emigration, suggesting that small colonies are incredibly dependent on a few key individuals. This free-market observation provides a landscape feature of when the ambition to work is given appropriate latitude. Secondly, on observation, each ant’s amount of work was more evenly distributed in larger colonies. From scout ants to carrier ants, these social entrepreneurs instinctively divide responsibilities effectively  to maintain, build and grow existing and new colonies successfully. With this clear and classified division of work, ants successfully continue to thrive as “social entrepreneurs” in their colony environments as they have since the ancient days of the Proverbs writer’s reflections.

As (business) knowledge continues to exponentially lead to innovations, from candlestick makers to electricians and shepherds to fence builders and doctors to surgeons, and laborers  to robots, the concept of division of labor continues to successfully segregate the production or manufacturing of the product(s), distribution warehouses, and retail sale storefronts into individual enterprises for entrepreneurship. Have ant colonies developed this economic model in colonized successes over period of time or have they been quietly and industriously implementing this economic model since the first days of their creation? 

Preface: “Great things happen to those who don’t stop believing, trying, learning, and being grateful.” Roy T. Bennett

Are Leading Entrepreneurs Considering the Ants? (Segment II)

Credit: Donald J. Sauder, CPA | CVA

Develop a Routine

Ants appreciate the importance of daily and weekly routines, including rest. The worker ant manages their work schedule with one-minute naps at regular intervals. Napping with say 250 quick snoozes every day, with approximately a four-hour sleep cycle. The Queen ant rests more with approximately ninety 6 minute naps per day. In contrast, worker ants follow consistent routines per daily tasks and responsibilities on public works projects for the colony’s continued well-being.

An essential and often overlooked component of high-achievement in entrepreneurship is also a routine. A well-developed daily routine pillars good habits in several ways. One of the most important is that it reduces the time and opportunity for a wasted moment, minimizing the chance of drifting aimlessly into the problematic doldrums of idleness. Suppose you research the amount of data on the benefits of daily routines. In that case, you will discover the frequency of routines and time management techniques implemented by high achievers both inside and outside of the public eye.

“The heights by great men reached and kept were not attained by sudden flight, but they while their companions slept, were toiling upward in the night.” Henry Wadsworth Longfellow

Routines can enable entrepreneurs to make individual decisions quickly and without laboriously thinking about them and the alternatives, including the time to work on the business, team meetings, or reflections, all corporate characteristics of experienced and adept management.

These effective routines free up more necessary resources for any unforeseen challenges of a busy day, perhaps. But alas, routines may not be for everyone. Yet, many industrious students have often rigorously followed routines, and these habits follow them into their careers, leading to exceptional opportunities. So too, those entrepreneurs who work persistently to build a productive daily or weekly routine, the routines and habits will effectively lead towards the desired opportunity for advancement.

Stay Optimistic

Now we will consider the mindset of ants. Ants think and plan ahead. They live with a continual awareness winter is approaching amidst the warm and balmy summer climate months, and they are optimistic they can sustain their colony through those anticipated winter challenges with appropriate preparations. They therefore diligently gather food all summer long for the winter months’ reliant on the environment to provide, and they approach that task without a quota. In other words, there is no limit on when the gathering is “enough.”

It’s a mindset of working as arduously, as long, and persevering as much as you can in preparation because predicting winter challenges is never easy, and the stake of the colonies future relies on the ants individual and collective persistent efforts to store up for whatever winter may bring.

When winter arrives, the ants can then satisfactorily wait for spring to arrive, knowing they’ve prepared appropriately for the colonies successful survival, and patiently look forward to getting back to the fields when the warm weather comes, and do it all again.

There is a book The Ant and the Elephant about an ant stranded alone on an island. The ant asks a turtle for help. The turtle uncaringly refuses because he has already swum for the day; soon after that, he falls on his back and can’t right himself. So, he asks a hornbill for help; she selfishly refuses, and then her egg falls out of its nest. It’s too heavy for her to carry, so she asks a giraffe for help, but the giraffe is also too inconsiderate to assist. Then the giraffe’s legs get hopelessly snared in some large vines; he asks a lion for help, but the lion just laughs and saunters on. Then a boulder rolls onto the lion’s tail, ensnaring him. He asks a rhino for help, but when he can’t think of any way to return the favor, the rhino strolls on to gets his horn embedded in a stump. Then an elephant considers the collective predicaments and helps each of the animals in turn, starting with the ant, which is the only one who bothers to thank the Elephant.

Shortly after the Elephant has assisted everyone, he falls into a ravine. When he can’t get out, the Elephant resigns himself to his predicament. Then a horde of ants led by the one he assisted previously safely transported him out of the ravine. The Elephant, in turn, then gives the ants a ride home on his back. Vibrant and flourishing entrepreneurship is centered around vibrant communities. Consider the above story and the antithesis of all the island dwellers being selfish perhaps.

Even though the above story is about an Elephant and an Ant in the jungle, it again exemplifies the fact that the best blessings we can receive are usually in the joy and reward of helping others, when we have the opportunity, regardless of our aura, without great expectation, and with gratitude we can help give.

To be continued…..

Preface: A fruitfly is ancient in 40 days, a mouse at 3 years, a horse at 30,
a man at 100, and some species of, tortoises not until 150 years.  Quote from Leonard Hayflick

Disciplined Marching

Credit: Jacob M. Dietz, CPA

Imagine that there are two hikers travelling on foot from California on the west coast to Maine on the east coast. The long trek involves desert, nearly endless plains, and many, many miles. Hiker 1 consistently treks 20 miles per day in good weather and bad weather. He does not exhaust himself when traveling is easy by pushing too hard, but he also does not relax too much when traveling is difficult but keeps marching. He marches with discipline.

The second hiker, however, travels with less discipline. When it is easy, he hikes many miles, risking exhaustion from too much exertion. When it is hard, he stays in his tent, delaying the reaching of the goal.

Is there anything we can learn from these hikers that helps in our vocations? This hiking example is adapted from the book Great by Choice authored by Jim Collins and Morten Hansen. The authors teach us about business discipline. In their research, they explain principles and benefits of 20-mile marching discipline for business.

Disciplined Widget Production Plan

How could 20-mile marching apply in a business? The specifics of a 20-mile march would vary from one company to another. Let us look at a hypothetical manufacturing company, ABC Manufacturing, LLC.

ABC Manufacturing, LLC manufactures widgets that it sells to homeowners. ABC’s 20-mile march is to increase annual production of widgets by at least 10% every year, but not more than 15%. Their 20-mile march goal, in this hypothetical example, was set by the company after careful consideration.

The company wants to grow, but not too fast. They realize that at least 10% growth in the production of widgets is necessary to keep the business growing fast enough for the business to reach its goals. If the company does not consistently reach 10% growth, then the goals of the company are not accomplished.

Although the goals of a company will vary from one company to another company, the goals of ABC Manufacturing involve funding a certain percentage of an orphanage in another country. Another goal is for the founding owner, Abel, to be able to phase out of the business by a set age and turn it over to 5 of his children. The company must be profitable enough to support them and their families while continuing to fund part of the orphanage. After doing the math on how to reach these goals, and some other goals, Abel clearly sees that the company should strive for no less than 10% production increases each year.

Furthermore, Abel realizes that too much growth would be counterproductive. Abel abhors excessive debt loads. He calculates that he could not sustain more than 15% production increases without pulling his equity-to-asset ratio too low. The lower the equity to asset ratio, the higher the liability load.

Abel also strives to slowly teach his children how to lead the business. He realizes that if the business consistently grows production by more than 15%, then he will thrust his children into too much responsibility too soon. Although Abel deeply desires to see his children eventually reach those heights of responsibility, he wants to prepare them thoroughly for it.

Discipline to Make Difficult Decisions

ABC Manufacturing, LLC did not realize how challenging their march would be when they set out to annually increase widget production by 10%-15%.

In year 2, reaching 10% seemed very difficult. In April, the flu kept 2 of the most productive workers off the shop floor for 1 week each. Furthermore, one of the machines caught fire. Fortunately, the local fire department put the fire out with minimal damage to the shop, but the machine was nonfunctional for two weeks.

Abel’s stress level was high at the end of April. He was not only missing the 10% production growth goal; he was slightly behind the previous year’s production. So, what did Abel do?

He took a pen and a notebook and went to a park. Abel did not want to languish in mediocrity. He knew if his competitors saw him, they would probably laugh and think he was wasting his time at the park. But Able took this clarity break because he knew he needed new ideas if he wanted to reach his 10% production growth goal. He thought and prayed and doodled all morning.

Fortunately, one of his doodles was a new way to organize one of the machine workstations. When he went back to the shop and tried the new layout, the employees were delighted. The new layout allowed them to produce widgets faster.

Later in the year, Abel hired a new employee to assist with manufacturing widgets. The new employee and the new design helped ABC hit 11% growth that year. Abel could not control the flu or the fire. Abel worked on what he could control, hiring a new employee and redesigning the layout.

The next year, no one got sick and no fires damaged the shop. Furthermore, a dealer from a nearby state called and told Abel that he found a new customer for ABC. The new customer, however, would only switch to ABC’s widgets if ABC were able to supply all their widget needs. Abel realized that he could not supply enough widgets unless he doubled production.

Abel groaned inwardly at the decision. He did want to eventually grow the business. If he doubled production, he might even be able to fund the orphanage completely, instead of just a portion of it.

Abel declined to double production. Although no external economic force prevented him from growing, Abel resolutely stuck to his goals because he knew they were good goals established for good reasons. He knew that if he would double production that year, then he would need to reach a debt level at which he was uncomfortable. He also knew that he would need to place his son Seth in a management position before Abel felt Seth had enough experience to manage.

The Fruit of Discipline

Eventually, ABC’s disciplined growth strategy, not too slow and not too fast, paid off for the hypothetical Abel. He was able to turn the business over to his children, who were all capable leaders with years of experience leading in the company. The company had grown sufficiently to be able to easily support them, as well as fund a greater portion of the orphanage.

Lacking Discipline

We looked at a hypothetical company that exercised discipline in their business. Now, let us look at a hypothetical company that failed to march properly.

XYZ Manufacturing, LLC builds homes. XYZ’s 20-mile march is to increase annual home sales by at least 20% every year, but not more than 25%.

In year 2, sales were difficult to close. Although on paper the goal was to increase sales by at least 20%, the founder, Cain, did not bother comparing sales until after the year was over. After the year was over, he realized that he only increased sales by 5%. Cain was very frustrated at the lack of growth.

The next year, the economic winds changed, and home sales soared. Still stinging from not reaching his goal the year before, Cain pushed hard to close sales. He realized that his employees were working as hard as they could, so he hired two new crews. He did not have the working capital to outfit the new crews with equipment, so he went to the bank for a loan. After securing the loan with his personal home, he outfitted the crews with new equipment.

Later, some empty lots came up for sale in an area near where he had built some homes. Although Cain had never purchased lots before, he decided to purchase 5 lots to increase his profits as he tried to catch in his sails the economic winds that were soaring sales in his region.

At the end of the year, when Cain asked his accountant how sales compared to last year, Cain was stunned to learn he had increased sales by 95%. At first, he felt a little bad about zooming past his 25% maximum goal. Then he remembered that he had failed to reach his minimum goal the year before. He decided more of a good thing must be a good thing, so he disregarded the 25% maximum and pushed for rapid growth again the next year. He purchased 5 more empty lots for development, and he started yet another crew.

Halfway through the year, through no fault of Cain’s, the economic winds changed. He could not find enough work for his crews. He started subcontracting two of his crews to a general contractor at a rate that was not enough to cover all the overhead. He decided to sell the empty lots to generate cash flow. Unfortunately, the lots only sold for about 70% of the price for which he had purchased them. The amount earned from selling them barely covered the loans he had on them.

What happened? Cain lacked discipline. When things were difficult, he failed to measure his progress and take steps to increase sales. He had a poor year.

He also lacked the discipline to hold back when things were going well. Again, he failed to measure his progress during the year to see how things were going. At the end of the year, when he finally realized he had overstepped the maximum goal, he just continued to overstep it instead of pulling back. The extreme growth left him highly leveraged and exposed to economic risks.

Exercise Discipline in Business

Although your company is probably not literally marching, it may benefit from setting a figurative 20-mile march and sticking to it. The march that your company goes on may look very different from the marches of these imaginary companies.

Are you on a march? If you are not, considering grabbing a pen and a notebook and going to a park. What should you measure, and what should the minimum and maximum be? If you pick a great march, then it may motivate you to focus on what you can control and change that. It may leave you less exposed to economic changes. It may move you steadily towards your long-term goals instead of languishing in mediocrity. Happy marching!

This article is general in nature, and it does not contain legal advice. Contact your advisors to discuss your specific situation.

Preface: The lazy should learn a lesson from the way ants live. They have no leader, chief, or ruler, but they store up their food during the summer, getting ready for winter.  Paraphrase of Proverb 6:6-8

Are Leading Entrepreneurs Considering the Ants?

Credit: Donald J. Sauder, CPA | CVA

Ants colonies are a great case study for entrepreneurial and organizational success. The nation of the Ants really can teach great lessons mostly applicable to business and entrepreneurship. In this blog, we intend to gain simple insights and profound, systematic principles from these quiet “social entrepreneurs” to help the entrepreneurial communities to flourish with a greater appreciation for the vibrancy of the freedoms of our culture and thee privileged opportunities to pass the time with holidays.  

Focus

One of the most significant challenges in entrepreneurship is keeping focused on the right business opportunities, highest value tasks, and keystone priorities. Ants are exceptional at this. They can seemingly focus effectively on a task or project and see it through successfully to completion. They don’t procrastinate, complain, or wince at the perceived work or effort that may be required. Instead, they diligently and quietly get to work.

Likewise, star baseball players keep their “eye on the ball” and connect successfully. That’s how they win the game. That’s how they hit home runs right, focusing on the right opportunity to connect. Entrepreneurs likewise must also value continual focus day after day.  

Entrepreneurial success is obtained with a single-minded focus on serving customers, delighting customers, and satisfying customers. While this may seem to be conventional advice, it is easy to get distracted, in many moments, not only from business priorities, and not only individually but as a team or organization.

Ants seemingly don’t expect to be applauded at an awards ceremony or receive graduate honors, or other honorary recognition. Yet our expectation as we consider these social entrepreneurs is that they will give the responsibility of each task an award level commitment and focus. What do ants do for leisure?

A business can be only as successful as its systems of service, satisfaction, and delight of customers. Would you trust an ant to do what it says it will do regarding an order? A business that has a thriving and vibrant focus will have an outperforming team that is trusted, keeps its word, and delivers on consistently on time and budget. Do this, and the rest will take of its self.

Every incredible journey started with the first metric length. Goal setting with a plan will help you more easily measure and keep focus. Achieve your vision in incremental segments that are concise, understood, and realistic. Then accurately measure the success of your focus as you complete each step of the plan. This provides clear goal-posts to measure the yardage gained and progress with chronological steps.

A business with a focus will listen to its customers and provide staff training to develop the expertise to deliver an exceptional experience with every sale. While this is not easy to achieve and easier to talk about, it pays big dividends. Imaging what customer service would be like from an ant may seem similar to a robot – quiet, ambitious, and with a dedicated effort to complete the task to the best of expectations and highest standards. Giving 100% and knowing that is all that is required. Ants focus most effectively, and effectual entrepreneurs focus too. If focusing on entrepreneurship with the high-standards exhibited from the ants, it is likely good to great things will most certainly happen. 

To be continued….