"Parents could keep new voting preferred stock and gift new non-voting common stock to their children with little or zero gift tax due.
Parents will retain control of the company and all future appreciation of the company goes to the children. Upon the parents` death, the company can redeem their preferred shares and the common shares can be given voting rights. "
Can someone please explain this? Especially the part on the preferred stock. Why is preferred stock being used here?
Because, preferred shares pays a fixed dividend in every year. Price appreciation of preferred shares has become limited. Moreover, voting preferred shares retain the control of the company.
On the other hand, non voting common shares’ payout ratio grows in line with the business growth.
As the higher appreciable asset has been transferred to young generation, tax liability can be deferred for a longer time period. In addition to that, retaining voting preferred shares facilitates to hold the control of the business.
Thus, parents can attain two objectives: a) defering tax liability for a longer time period, b) retaining the business control.
It says in the question description that the parents would like to retain control, so this is done basically by keeping the voting preferred shares. If they transfer the preferred shares to the children now, they will no longer have control and they already feel that the children don’t have the necessary experience to run the business at the moment.