Shareholder Protection: How to protect your business when losing a shareholder
When you’re a shareholder, you’ll want to protect your business against unexpected events to keep it running successfully. Most shareholders will put agreements in place to set out basic rules when they set up or join the business. This agreement covers lots of key issues to help protect the business and each individual shareholder. The agreement often includes overall business strategy, management decisions and business policies. As a result, shareholder protection can be overlooked by businesses. This can cause problems further down the line if the money isn’t in the business to help protect it.
The death of a shareholder can have a huge impact on a business. Normally, when a shareholder passes away their business share falls into their estate. The estate will often be passed down to the family. However, it is often the case that the remaining shareholders want to buy the share. If the family is unwilling to sell things can get complicated. Similarly, if the business doesn’t actually have the money to buy the share, the future of the company becomes unknown.
Without shareholder protection
Shareholders may already have an agreement in place that sets out what happens in the event of a death of a shareholder. Sometimes, this agreement is subject to restrictions that can delay or cancel the transfer of the share. In addition to this, if the remaining shareholders cannot afford to purchase the shares, then the rights will not be exercised. If the family still wish to sell the share to receive financial support, it can result in the share going elsewhere. The share is then, therefore, at risk to be sold to competitors or unwanted parties.
Similarly, if the share cannot be sold, the family might have no choice but to keep it. They may have little or no interest in running the business or may attempt to do so with no business experience.
Protecting your business
Protecting your business against the death of a shareholder isn’t complicated.
With Shareholder Protection, the business, the family and the remaining shareholders can all be protected. This type of life insurance policy provides a lump sum which goes directly to the remaining shareholders. This money allows them to purchase the share of their fellow shareholder. With shareholder protection, each shareholder takes out an ‘own life’ policy on themselves, which pays to the remaining shareholders. Alternatively, with a smaller number of shareholders, it is possible to take out a policy on the ‘life of another’.
Valuing each share
The value of the policy should reflect the value of the share that the shareholder owns. To avoid any dispute in this situation, with Shareholder Protection the price of the share becomes the amount paid out by the policy. This ensures the remaining shareholders can afford to purchase the share as well as the family receiving a fair price. An indexed policy can take inflation into account to help hold the share’s value. Whilst the premiums increase each year, so does the policy amount. This increment falls directly in line with economic indexation to ensure the value of the share is always covered.
Shareholder protection provides the funds to buy the share; an agreement helps guarantee the transfer. These agreements mean each party agrees to sell and buy the share, so no disputes arise. The shareholder taking out the policy agrees that their share goes to the remaining shareholders. Similarly, the remaining shareholders agree to buy the share back from the estate.
A cross-option agreement
A cross-option or double option agreement allows both parties to buy and sell the share if they agree. In the case that the family wishes to sell, the remaining shareholders must agree to purchase the share. Similarly, if the shareholders wish to purchase, the family must agree to sell. Whilst the share will still fall into the estate, this agreement makes the transfer of the share easier. With an easier and quicker process, the business does not have to suffer from loss of profits. More importantly, it gives the family more time to grieve.
A single option agreement
A single option agreement with a shareholder policy protects the shareholder in the event of a critical illness. If a shareholder were to become seriously ill and suffers from a stroke, heart attack or cancer, they may no longer be able to work. In the case that the shareholder wishes to sell their part of the business, the remaining shareholders must agree to purchase it.
However, it does not work the other way around. If the shareholders attempt to buy the share, the ill shareholder does not have to sell if they do not want to. This works only in the event of a critical illness, allowing the shareholder to make a call on whether they would still like to be part of the business.
Keeping the business running
Shareholder Protection ensures the continuity of your business in the case that a director or owner passes away or becomes critically ill. Shareholder protection provides peace of mind. This type of protection creates a smoother process allowing the transfer to happen quicker and more efficiently than traditional agreements.
Shareholder Protection can be critical in safeguarding your business and protecting yourself, your employees, your fellow shareholders and your family. To get a free quote, get in touch today.