Does your business have a will?

Robin Carnaby
Financial Planning

The death of a key person can be a dangerous time for a business, so it pays to protect against it, says Robin Carnaby of Lovewell Blake Financial Planning.

Our part of the world has an economy which is largely based on small businesses, driven largely by entrepreneurial individuals.  As such, we have a disproportionate number of partnerships and limited companies with small number of shareholder-directors. 

That can be a great model for a business, but it does make it very vulnerable should something happen to one of those key people – which is why it is vital to plan for such a contingency. 

It is just like an individual planning to make sure their family will be looked after should they die. The question every small business owner should be asking themselves is this: does my business have a will?

Let’s take an example of a company with just two shareholders, each with a 50% share in the business.  Should one of those shareholders die, it is likely that their share of the business will pass to their next of kin, probably their spouse or their children. 

Someone who is recently widowed will probably not want to get involved in the minutiae of running a business, even in the unlikely event that they have the skills to do so.  That could lead to paralysis when it comes to making decisions.  

Alternatively, a family member of the deceased shareholder might want to get involved in the business, but may not see the world in the same way as the surviving shareholder.  In the worst case scenario, the deceased’s relative could sell their share to a competitor. 

Either way, there is an obvious threat to the business, which needs to be mitigated against. 

Fortunately, this is entirely possible.  A ‘Cross Option Agreement’, coupled with Shareholder or Partnership Protection policies, can set out exactly what happens when a partner or shareholder dies.  Essentially this is a legal agreement that their shares will be bought back into the business, backed by an insurance policy which will fund that buy-back. 

The surviving partner(s) or shareholder(s) can then get on with running the business.  Meanwhile, the deceased’s relatives will receive cash, rather than shares in a business in which they probably don’t want to get involved in. 

Such cross-option agreements are a really good way of securing the future of as business against the potential death of a partner or shareholder.  Unfortunately, just as many individuals don’t have a will, it is surprisingly common for businesses not to have such agreement (and the necessary insurance policy) in place. 

Regular reviews are also important, to ensure that there will be sufficient funds to carry out what is in the agreement.  For example, if you took out a policy when your business was worth £50,000, but it has since grown to be worth £250,000, then there will be a significant shortfall.  It is good practice to review cover on an annual basis. 

It is important to take advice on the tax implications of such policies.  This will vary depending on whether individual partners/shareholders or the business itself pays the premiums.  The last thing you want in such circumstances is a large tax bill whittling away the available funds to buy back the relevant shares. 

Shareholder or Partnership Protection is not the only aspect of a business’s ‘will’.  Many small businesses have key personnel on whom the prosperity of the company largely depends – a skilled coder in an IT firm, for example, or a researcher in a biotech business.  Again, it pays to plan in case one of these key members of staff dies, or falls ill and is unable to work. 

This is where Key Person Insurance comes in.  This will pay out to a business should a key employee die (or if critical illness is included, is unable to work through illness), enabling them to bring in external help to plug any gap, or head-hunt similar talent to replace that key person. 

Losing a business partner, shareholder or key employee can be destabilising for a business.  If it has borrowings (or might need to borrow), the lender may look unfavourably on a business which has just lost a key individual.  If the business cannot afford to pay for the shareholding of the deceased, then their relatives may be left with share which have little or no value.  Or, worse, a chunk of that business may be inherited by an unwanted beneficiary whose priorities may not align with those left behind. 

Making sure your business has a ‘will’ means the surviving partner(s) or shareholder(s) can stay in control of the business and that the relatives of the deceased can inherit the full value of their shares.

If you would like to discuss any of the points raised

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