Pass the Baton Without Missing a Beat

A succession plan minimizes disruption when a senior partner bows out.

A FIRM'S SUCCESSION PLAN ISSUES include mentoring new leadership, providing retirement benefits and deciding how to transfer the firm to younger owners.

TO ENSURE FAIRNESS, CPAs should establish a succession plan before the partners know who will stay and who will move on. The ideal time is when the firm is formed, but make a plan a minimum of 10 years before a senior partner’s likely retirement.

A FIRM SHOULD HAVE a partnership agreement, an up-to-date valuation and buy/sell agreements in place. Because circumstances can change quickly, a plan should be reviewed no less than once a year.

A PRACTICE CONTINUATION PLAN provides for an outside party to take over the practice under a predetermined compensation and payment schedule. It’s a small to midsize firm’s only defense against potential calamity when a senior partner dies suddenly. Review it with heirs and key clients.

FIRMS NEED TO CHOOSE A SUCCESSOR managing partner. A future owner must know how to recruit, hire, train, evaluate, compensate and supervise new accountants as well as how to schedule engagements.

OFFERING MANAGER TRAINEES A BONUS based on firm profits conditions them for ownership before the fact rather than after.

ROBERT MANTHEY, MBA, is market research manager for the AICPA. Mr. Manthey’s views, as expressed in this article, do not necessarily reflect the views of the Institute. Official positions are determined through certain specific committee procedures, due process and deliberation. WILLIAM E. BALHOFF, CPA, CFE, is the PCPS executive committee chairman and audit director at Postlethwaite & Netterville, CPAs, Baton Rouge, Louisiana.
enjamin Franklin said that nothing is certain in this world but death and taxes, and CPA firms ought to be ready to deal with both eventualities if anybody is. Nevertheless, a surprising number of firms don’t have a written succession plan to provide for continuation of the business after one of the owners withdraws or dies. For a small to midsize firm, such a plan is its only defense against potential legal, financial and personnel calamities when a senior partner leaves unexpectedly. This article offers a few pointers for CPAs who need a push to get them to roll up their sleeves and get their house in order.


The skills of succession planning are part of the professional currency of accountants—although CPAs apparently use them more on behalf of their clients than their own firms. More than three-quarters of those replying to a recent PCPS poll said they didn’t have a written succession plan in place and that the withdrawal, disability or sudden death of a partner would pose a significant challenge to their business (see exhibit, below). The issue of least concern—providing for retirement benefits—would still pose a challenge for 46% of the firms. Half of those having a strategic plan believed it prepared them for such major changes. However, the fact that 69.3% felt their plan prepared them to handle the sudden death of a partner means that 30.7%, nearly a third, did not.

“Do you have a strategic plan?”

Asked that question as part of a recent succession planning survey, 412 firms responded; 90% of those with $5 million or more in annual revenue reported having one. The figure plunged to 20% for firms with less than $200,000 in annual revenue. The midrange looked like this:

Source: Partnering for CPA Practice Success (PCPS).

Statistics indicate that one in three partners of firms with less than $5 million in annual revenue will turn management of their business over to new hands within the next five years. Wanda Lorenz, CPA, former managing partner of Lane Gorman Trubitt LLP—a single-office firm in Dallas with 16 partners and about 100 staff—says, “Succession is among the most important practice management issues facing the profession.”

A firm’s biggest transition issues involving partner turnover are

Coping with a sudden withdrawal, disability or death of a partner.
Mentoring new leadership.
Providing retirement benefits.
Transferring the firm to younger partners.
Selling the firm.
Overcoming procrastination about making a plan.


“Most small-business owners don’t have an exit strategy,” says Jody Davis, CPA, who is an authority on small-business succession planning issues and a partner of Davis Monk & Co., a 40-person CPA firm in Gainesville, Florida. “They just don’t want to deal with it until it’s too late—and that’s just as true for small CPA firms,” he says. (See “Preserving the Family Legacy,” for more information on succession strategies for small and family-owned businesses.)

William Potter, CPA, managing partner at Postlethwaite & Netterville, Baton Rouge, Louisiana, concurs. A stint as president of his state society showed him the problem was widespread: “I was alarmed to find how few small firms had any kind of practice-continuation plan.”

Potter thinks no firm should be caught off guard by such inevitable changes. He advises that small-firm principals establish a basic succession policy “before they know which one will be staying and which one will be going; that way they’ll be more likely to reach a fair arrangement. The ideal time, really, is when the company is formed.”

“If you’re a sole practitioner, don’t wait to get a plan in place,” says Donald Scholl, a West Chester, Pennsylvania, management consultant to the profession. “While it is rare, some CPAs have needed a plan to manage a practice transition while they were relatively young.”

If you don’t have a plan, don’t panic—but don’t wait to begin framing one. Davis says, “Many small-business owners wait until five or six years before they want to retire,” but at that point there may not be enough time for an orderly and optimum changeover. Principals should start succession planning “sooner rather than later”—that is, a minimum of 10 years before a senior partner’s proposed retirement—to allow enough time to look at all the transition and funding possibilities.

“It’s absolutely essential to have some kind of practice continuation agreement to cover contingencies” such as a sudden death, particularly for “solo” CPAs, Potter says. To underscore the seriousness of the problem, he recalls this example: “One Sunday morning a client’s wife called me. Her brother, a 42-year-old CPA in solo practice, had died suddenly. My firm went in and found there was no contingency plan. We were lucky to be able to get a small firm to buy the practice; otherwise there would have been nothing left for the family.”


Because the manager group is the pool from which to draw new owners, it’s a firm’s single most important resource. “Planning for succession means having a concrete strategic plan for determining the successor managing partner,” says Lorenz. “Many firms have an abundance of highly motivated client service partners who are wonderful technicians, but it’s a very long stretch for a technical partner to suddenly be the strategic planner and the one holding all the other partners accountable.”

Typically, a firm will promote an accountant to manager after about eight years’ experience and, after three to five years at the manager level, offer him or her ownership. It’s during this period that potential-partner managers gradually should be exposed to all hands-on aspects of firm operations. For example, a future owner needs to know how to recruit, hire, train, evaluate, compensate and supervise new accountants as well as how to schedule engagements and bring in new business. Owners looking ahead to retirement don’t give up prerogatives in this process. Instead, they provide valuable training to their successors while using managers as a vehicle for interacting with a large number of staff.

Under the direction of the managing partner, a firm should prepare manager trainees for ownership responsibility in increments. It needs to pay attention to the big picture to identify and replace skills it will be losing. Whether the business sends candidates to management courses or trains them in-house, its process should place special emphasis on developing this group’s supervisory and leadership skills (see “What You Want in a Partner,” at the end of this article). A firm that is adding a partner must get skills that complement and strengthen the organization. It should evaluate potential partners quarterly and keep a careful record that tracks their development. A firm should make sure compensation is commensurate with responsibilities; offering managers a bonus based on firm profits conditions them for ownership before the fact rather than after.

Harold Monk, CPA and Davis Monk partner, agrees that identifying a successor managing partner is the key to a firm’s continued growth. When his firm suddenly realized its equity partners had moved into their mid-50s, it took steps to catch up. “We had two managing partners from other local firms conduct a total review” of the firm’s succession plan, he says. “One of their suggestions was that we give management roles to the younger partners who wanted them. They’ve flourished, and we’ve had our best year ever.”

Davis Monk is doing it without a formal training program, however. “We send our young managers to outside management courses, but we’re finding that they learn most by networking with managers at other firms we’re affiliated with and getting their insights into best practices,” Monk says.

The access to information this network of professionals has offered has resolved many of the firm’s succession issues, Davis says: “Our firm is run day to day by three partners, and if something happened to any of them, there are managers capable of stepping in and picking up the administrative responsibilities and client service.”


Davis notes that a succession plan will have slightly different aims for sole practitioners than for small partnerships and corporations. “A sole practitioner’s exit strategy is to capitalize on having built a practice by selling it so as to provide an income stream for the rest of his or her life.” The retiring practitioner has to decide how much time and/or money he or she wants to aim for. With life spans increasing, outright liquidation is probably not the preferred option, however. Generally, selling late will bring the best price, but beginning the retirement transition a few years beforehand will let the practitioner wind down gradually, cutting back on both income and responsibilities.

“One strategy that’s worked for many has been to take on a junior partner who would pick up the workload, become familiar with the client base and increase the firm’s income as the senior partner phases out,” says Davis. He suggests starting with a six-month “look-see” period to ensure the different generations’ personalities and work ethics mesh comfortably.

A variation on a traditional cash buyout is the earn-out. That is, the buyer of the practice acquires it in an installment purchase, operating the practice while paying the senior partner over an extended period. This arrangement allows a partner with limited resources to acquire a practice over time. It also has the advantage of letting the seller work less and develop other interests before completely leaving the business.

A practitioner who wants to make a plan to cope with the specifics of his or her firm but doesn’t know where to get started, should “contact the executive director of the state society,” Potter counsels. “The state society will know people you can work with to put together a plan.”


To establish a succession safety net, make sure your firm

Has a partnership agreement (in effect, a business “prenup” that stipulates how to dissolve a partnership and other financial and management requirements).

Has a practice continuation plan (a contract with an outside entity to take over the practice under an agreed compensation formula and payment schedule—especially important for sole practitioners).

Is appropriately valued (market, income or asset based).

Has buy/sell agreements in place (contracts establishing the terms of transferring ownership interest).

Succession Events
Are firms perceiving and preparing for them in time?
  See as a challenge Covered in plan
Retirement 54.4% 58.7%
Withdrawal 72.4% 51.7%
Disability 74.3% 64.8%
Death 75.7% 69.3%
Retirement benefits 46.1% 58.5%
Capital payout 48.2% 62.7%
New partner recruitment 64.2% 22.6%
Source: Partnering for CPA Practice Success (PCPS).
“Many small partnerships have only a spotty partnership agreement or none at all,” Davis says, which makes a firm vulnerable. He recommends: “Your attorney should draft or review your partnership agreement with an eye to succession issues. Where the firm’s structure is corporate, whether the impetus is death, disability or retirement, the key issue is buying out the withdrawing shareholder or partner’s interest.

For a sole practitioner a practice continuation agreement is fundamental and is, in effect, a succession plan for that firm. This contractual arrangement with another CPA or firm provides that in the event of death or disability, the party agrees to immediately take over the practice under a predetermined compensation formula and payment schedule. “A spouse and/or heirs as well as estate executors should be made aware of this agreement. It’s a good idea for the CPA to inform key clients, too, to be sure it is acceptable to them,” says Potter.

“For most entities, a buy/sell agreement is the best mechanism for the transfer of ownership interests,” Davis says. The specific company’s circumstances, Davis notes, determine whether the buy/sell agreement should take the form of a cross-purchase agreement, in which the remaining owners buy back the withdrawing owner’s stock, or a repurchase agreement that provides for the entity to do so.

As well as recommending the traditional buy/sell agreement, Davis says that funding is critical. Entities that have become too large for conventional funding and transfers need unconventional planning. The one thing Davis insists on is regular periodic review of the agreements: “Circumstances change. During an administrative review of another CPA firm’s buy/sell agreement, we found that it hadn’t been changed since the firm was established. Its valuation formula probably would have bankrupted the firm if a partner had died suddenly.” He counsels firms to check the details of all transition arrangements yearly and adheres to that advice himself.

Potter says partnerships need to “plan in general from the point of view of what’s best for the continuation of the entity. That also has tended to bring about the fairest results.”

Succession considerations should come into play as early as the choice of corporate entity, too, he says. “When we formed, Louisiana was just enacting its limited liability corporation law, the eighth in the country.

“One reason we chose to incorporate is that it allowed us to establish a qualified retirement plan, which lets us put aside money today for our retirement in the future; we’re not expecting the new people who come up to pay for our retirement and to try to make their own earnings at the same time,” says Potter. “That alone is making us—and similar professional services firms—much more competitive in recruiting younger talent, which helps assure the continuity of the firm in another way.”


Lorenz and her partners have worked out retirement as they’ve gone along, and she says: “During my 10-year term as managing partner, we retired three partners. Getting a workable plan was not easy. The year I was elected, we had a requirement to pay a ‘goodwill’ retirement in addition to the 401(k) plan, which was not funded. We got busy and allocated a 5% ‘retirement partner.’ This was a set-aside on which we knew we would pay taxes, but it stayed in the firm. It successfully funded the retirement for the four original partners.”
Subsequently she and her partners had a meeting and agreed that a client was not going to be a client forever, that any consulting services had to be sold over and over and that they didn’t think there was much goodwill in an accounting firm based on the changing service base. “We therefore agreed not to fund any goodwill retirement for the rest of us. We thought, and still do, that our 401(k) was solid and the firm’s success should be well represented by the growth in our accrual capital accounts,” she says.

“As for paying off those accrual capital accounts, that is done primarily through the collection of receivables. We also got a head start by paying excess draws during the two or three transition years when a retiring partner’s income was dropping,” Lorenz says.

Another avenue for succession planning can be consolidation through merger or sale. This can be beneficial when the firm has partners approaching retirement age and the firm has not taken care of the funding of the accrual capital payouts and/or the “goodwill” pension. In addition, the firm may need more young talent than it currently can afford.

However, “partners in a CPA firm are notorious for wanting to take all of the earnings home,” Lorenz observes. So much so that “many times CPA firms will borrow to pay partner draws instead of waiting for their receivables to collect. This leaves the firm without capital resources or borrowing leverage to buy or merge with another practice, to finance a new specialty or, sometimes, to even invest in the technology tools that are needed” to keep the business competitive, she says.


“Succession planning is life planning,” Davis sums up. He advises CPAs to “ask yourself what you want to do the rest of your life—the perfect scenario. Do you really want to retire completely or just begin taking more time off? Frame a plan that gets you as close as possible to your goals. Review the plan no less than once a year and never forget how quickly circumstances can change.”

Davis gives an example of why partners need a plan and need to keep it up to date: “If your retirement plans were based on the 1999 value of your investment portfolio, you might have to adjust drastically. Depending on your investment strategy, your assets could have declined by as much as 40% to 60%. So you might have to work another two or more years to get to where you wanted to be—if your partners are amenable.”

The demographics of the nation are bringing more practitioners and partners into the retirement age range. “The greatest failure point for local and regional CPA firms is the transition from the founders to the second generation of owners,” says Scholl. “Well-developed and implemented financial and leadership succession plans can guarantee the future of a firm.”

Says Davis, “If you don’t have a succession plan, you will be either forced to sell or to close your doors.”

What You Want in a Partner

Clear criteria for making partner give firms a benchmark against which to evaluate candidates. For example, individuals being considered for future ownership should have

Completed a minimum of eight years of public accounting experience.
Earned a CPA certificate (as well as other appropriate professional certifications).
Expressed interest in a specialization that meets the firm’s needs.
Set managerial goals and met them based on their expressed interest or specialization.
Demonstrated an ability to charge—and collect—an acceptable hourly billing rate (by market).
Completed a series of professional development courses, from basic levels to executive management.
Participated in practice development activities such as

Joining professional, civic or social organizations.
Attending professional meetings.
Holding office or directorship in civic, professional or alumni organizations.
Speaking or making other professional appearances.
Meeting with prospective clients and other business contacts.
Developing new business from existing clients.
Keeping clients informed on matters of importance to them.

Displayed acceptable moral and ethical character.
Demonstrated temperate health habits.
Obtained the support of his or her spouse.
Shown responsibility in personal financial affairs.
Espoused personal goals that don’t conflict with firm goals.
Developed good interpersonal skills.
Gained the respect of partners, staff and clients.

Source: Donald B. Scholl, West Chester, Pennsylvania, .


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