Advances in medicine have extended life expectancy, but increased longevity has introduced a serious and increasingly common risk for closely held businesses: cognitive decline among owners and key employees. According to Wealth Management, dementia no longer represents a remote personal concern. It now presents a foreseeable and material business risk that directly affects succession planning, governance, and tax strategy.
Research from Columbia University, reviewed by Wealth Management, underscores the scope of the issue. Nearly 10 percent of U.S. adults age 65 and older have dementia, while another 22 percent experience mild cognitive impairment. The risk escalates sharply with age, rising from 3 percent among individuals ages 65 to 69 to 35 percent among those age 90 and older. For owners of closely held businesses, professional practices, and investment entities, these statistics translate into real operational and legal exposure.
Unlike death, cognitive decline often unfolds gradually and ambiguously. This reality creates a prolonged "gray zone" in which a business leader remains alive and nominally in control but lacks the capacity to fulfill fiduciary, managerial, or professional duties. That ambiguity can cast doubt on decision-making authority, contract enforceability, and transaction validity.
Unaddressed cognitive decline can expose a business to significant risks, including challengeable contracts executed during periods of diminished capacity, operational paralysis caused by unclear authority, employee uncertainty, family and partner disputes over intervention, regulatory and malpractice exposure in licensed professions, and heightened risk of financial exploitation. Without advance planning, businesses may lack the legal ability to remove or replace a key decision maker without court involvement—often when swift action matters most.
Effective planning requires distinguishing between key and non-key employees. Businesses may manage incapacity among non-key employees through joint decision-making structures, such as boards of directors or managing partners. Incapacity involving a key employee—such as a founder, rainmaker, investment decision-maker, managing partner, or family member—poses a direct threat to enterprise value. In those situations, decision-making authority must shift immediately, management continuity must remain intact, and client, lender, and investor confidence must be preserved.
Wealth Management adds that many business owners mistakenly believe a will adequately addresses succession concerns. In reality, a will offers little protection during lifetime incapacity. A will becomes effective only at death, does not transfer operational control during incapacity, may require probate, delays action, increases costs, and publicly discloses sensitive information. As a result, wills play only a limited role in addressing dementia-related business disruptions.
The most effective planning tool in this context is a properly drafted financial power of attorney coordinated with the entity's governing documents. As reported by Wealth Management, best practices include:
- Durable financial powers of attorney that expressly authorize business decisions, layered powers of attorney covering operational, financial, and digital assets
- Governing documents that recognize designated decision makers
- Employment or partnership agreements that permit immediate removal or reassignment upon incapacity
Durable medical powers of attorney also play a critical role by empowering family members to make medical decisions when necessary. These documents must be executed before cognitive decline becomes apparent, as capacity challenges can undermine even well-drafted plans.
For family-owned and closely held businesses, dementia planning must integrate into shareholder, limited liability company, and partnership agreements; buy-sell arrangements; employment agreements; family trusts and governance structures; and banking and investment authorizations. Wealth Management encourages financial advisors to suggest periodic review of these documents, particularly as owners and key executives age.
Advisors can provide significant value by addressing basis and income tax planning, including evaluating whether to sell, gift, or retain assets for a potential step-up in basis. According to Wealth Management, strategies may include gifting qualified small business stock under Internal Revenue Code Section 1202 to non-grantor trusts, deferring gain recognition where appropriate, reviewing low-basis assets, evaluating retirement account strategies, and structuring life insurance to fund buy-sell obligations. Advisors should also consider lifetime gifts that qualify for the gift tax exclusion when clients directly pay tuition or medical expenses.
Estate-freezing strategies, such as grantor retained annuity trusts, sales to intentionally defective grantor trusts, recapitalizations, and asset swaps, can preserve value when executed before capacity deteriorates. Buy-sell agreements require careful review to ensure valuation mechanisms function during incapacity and funding sources remain viable. Compensation, deferred compensation, charitable, and legacy planning must also align with capacity realities and long-term succession goals.
Planning proves most effective when clients act early, collaborate across disciplines, and clearly document capacity and intent. Dementia and serious health challenges no longer qualify as rare or unforeseeable events. They represent predictable risks that demand
proactive succession, governance, and tax planning. For closely held businesses, failing to plan for incapacity can inflict greater damage than failing to plan for death.
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