Estate planning is something that is often overlooked by business owners and entrepreneurs, especially at the start of building their enterprises. However, the death of a shareholder, particularly for owner managed companies, can have a devastating impact on a business and their fellow shareholders.
We therefore always advise our clients to consider what would happen to the business if the worst was to happen, and to put in place measures to protect the business in the event of a death.
What happens when a shareholder dies?
Unless a company’s shareholders agreement or articles of association contain provisions dealing with a shareholder passing away, then the rules of intestacy will apply. This means that the shares of the deceased will be inherited by the beneficiaries of their will. The beneficiaries, often their wife or children, may have little or no interest in taking over the deceased’s role in the business or the experience required. Catastrophe can then happen if the remaining shareholders do not have the funds to buy back the deceased’s shares. This is when a cross option agreement, backed by the appropriate insurance, is critical.
What is a cross option agreement?
A cross option agreement gives the surviving shareholders the option to buy the deceased’s shares at market value and gives the deceased’s personal representatives the option to sell the shares. An insurance policy, written in trust, is also taken out which ensures the sum required to buy the shares is available in this circumstance.
The use of a cross option agreement not only provides protection to a business and the families of shareholders, but it is also a tax efficient method of dealing with shares upon the death of a shareholder. A properly drafted cross option agreement will allow the deceased’s share to qualify for business property relief, and thereby not be subject to inheritance tax. It is essential that the ability to buy the deceased’s shares must be drafted as a right and not an obligation; otherwise the agreement is seen as a contract for sale for tax purposes and business property relief will not apply.
Our team of expert commercial solicitors are experienced in preparing cross option agreements and shareholders agreements. For further information on how estate planning could help protect your business and family, please contact Richard Coulthard on 0113 284 5000 or alternatively email Richard.Coulthard@isonharrison.co.uk.