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How Business Owners Can Use a Deferred Sales Trust for Succession Planning

March 1, 2025 No comments yet

For business owners approaching retirement or considering an exit strategy, succession planning represents one of the most significant financial decisions they’ll face. The challenge? Selling a successful business often triggers substantial capital gains taxes that can diminish the proceeds you’ve worked decades to build. Enter the Deferred Sales Trust (DST) – a powerful but often overlooked tool that can transform your succession planning strategy.

The Business Owner’s Dilemma

After years of building your business, you’re finally ready to sell. Perhaps your children aren’t interested in taking over, you’ve received an attractive offer, or you’re simply ready for retirement. Whatever the reason, the tax implications can be startling:

  • Federal capital gains taxes (currently up to 20%)
  • Net Investment Income Tax (3.8%)
  • State income taxes (varies by location, up to 13.3% in states like California)
  • Potential recapture of depreciation

For many business owners, this can mean losing 30% or more of their sale proceeds to taxes immediately upon sale.

What is a Deferred Sales Trust?

A Deferred Sales Trust is an installment sale strategy that allows you to defer capital gains taxes when selling highly appreciated assets, including businesses. Instead of selling directly to a buyer, you sell your business to a trust. The trust then sells to the end buyer and invests the proceeds according to a predetermined investment strategy. You receive installment payments from the trust over time, paying capital gains taxes only as you receive the payments.

How a DST Transforms Business Succession Planning

1. Maximize Sale Proceeds for Retirement

The primary advantage of using a Deferred Sales Trust for succession planning is preserving capital by deferring taxes. Instead of losing a significant percentage immediately, the full sale proceeds can be invested, potentially generating returns that significantly outpace what you would have earned on the post-tax amount from a conventional sale.

Example: Consider a business with a $5 million sale price and a $500,000 cost basis. With a combined federal and state tax rate of 30%, a traditional sale would result in approximately $1.35 million in immediate taxes. With a DST, that $1.35 million remains invested, potentially generating additional returns for years or decades.

2. Create Customized Income Streams

Unlike a one-time lump sum payment, a DST allows you to structure income payments that align with your retirement needs:

  • Fixed monthly payments for consistent income
  • Increasing payments to account for inflation
  • Lump-sum distributions for major expenses
  • Flexible payment adjustments as your needs change

This customization helps address one of the most common fears business owners face: outliving their money after selling their primary income-producing asset.

3. Diversification Beyond Your Business

Many business owners have the majority of their wealth tied up in their company – a significant concentration risk. A DST facilitates immediate diversification across multiple asset classes, industries, and investment vehicles without triggering immediate tax consequences.

Unlike a 1031 exchange, which limits you to like-kind property investments, a DST allows for diversification into:

  • Stocks and bonds
  • Mutual funds and ETFs
  • Real estate investment trusts
  • Private equity opportunities
  • Alternative investments

4. Bridge the Family Succession Gap

Not every family business has a next generation willing or able to take over. A DST can help bridge this gap by:

  • Providing ongoing income even without family succession
  • Creating a financial legacy for heirs without requiring them to run the business
  • Allowing time for younger family members to gain experience before potentially rejoining the industry
  • Funding trusts or other vehicles for family legacy planning

5. Facilitate Staged Exits

Some business owners prefer a gradual transition rather than a complete exit. A DST can accommodate:

  • Selling a portion of the business while retaining an operational role
  • Structured consulting arrangements with the new owners
  • Phased retirement plans
  • Seller financing alternatives with tax advantages

Practical Implementation Steps

1. Assemble Your Professional Team

A successful DST implementation requires specialized expertise. Your team should include:

  • A tax attorney with DST experience
  • A CPA familiar with installment sales
  • A financial advisor who can develop appropriate investment strategies
  • A qualified DST trustee

2. Pre-Sale Business Valuation

Before approaching potential buyers, obtain a professional business valuation to establish fair market value. This becomes crucial documentation for the DST arrangement and helps defend against potential IRS challenges.

3. DST Structure Implementation

Work with your team to:

  • Create the trust documentation
  • Establish appropriate investment parameters
  • Define the installment payment schedule
  • Document the sale of your business to the trust

4. Business Sale Execution

Once the DST is established:

  • The trust sells the business to the end buyer
  • Proceeds are invested according to the investment strategy
  • You begin receiving installment payments according to the predetermined schedule

5. Ongoing Trust Management

After the sale:

  • Regular investment reviews ensure alignment with objectives
  • Payment schedules can be adjusted within regulatory parameters
  • Tax reporting continues throughout the life of the trust
  • Estate integration ensures coordination with your broader legacy plans

Potential Challenges and Considerations

While a DST offers significant advantages, business owners should consider:

  • Complexity: DSTs require proper structuring and ongoing administration
  • Trustee selection: Finding a trustee with the right expertise is crucial
  • Investment management: The trust’s investment performance affects long-term outcomes
  • Regulatory compliance: Following IRS guidelines is essential to maintain tax deferral benefits
  • Long-term commitment: A DST is not a short-term strategy

Is a DST Right for Your Business Succession Plan?

While there are pros and cons of using this, a Deferred Sales Trust may be particularly valuable if:

  • Your business has significantly appreciated in value
  • You face substantial capital gains taxes upon sale
  • You desire ongoing income rather than a lump sum
  • You want investment flexibility beyond your current industry
  • You’re concerned about outliving your retirement assets
  • You seek tax-efficient wealth transfer to the next generation

Conclusion

For business owners facing succession decisions, a Deferred Sales Trust represents a sophisticated yet underutilized strategy that can dramatically improve financial outcomes. By deferring capital gains taxes, creating customized income streams, and enabling investment diversification, a DST transforms what would have been an immediate tax burden into an opportunity for continued growth and financial security.

As digital platforms like AcquiDST make DST implementation and management more accessible, business owners now have powerful tools to navigate the complexities of this strategy while maintaining full visibility and control throughout the process.

If you’re considering a business exit in the next several years, exploring a Deferred Sales Trust could be one of the most financially significant decisions in your succession planning journey.