Dealing with a business after a death of its owner can be extremely challenging. There is, of course, the emotional impact on family, colleagues and friends and the complexity of whether a business can continue, be sold or wound-up. It is, say Amish Patel and James Worrall, incredibly important that the business owner considers and plans for this during their lifetime.
The structure of the business will dictate what can and cannot happen. For example, a sole trader business will cease to be a business on its owner’s death as it has no distinct legal ‘personality’, and the assets and liabilities of the business will be assets and liabilities of the individual’s estate.
In circumstances where the death of the business owner would critically affect the value of the company and its ongoing operations, it’s usual for ‘key person insurance’ to be considered.
Limited Liability Partnerships (LLPs) are different to companies limited by shares. On the death of a member of an LLP, the regulations prohibit the executor or beneficiaries from a right to be appointed as a member of the business. They can generally only be appointed with the consent of all the remaining members. The regulations also prohibit the estate from demanding transfer or repayment of the deceased’s share in the partnership until the other members are ready to account for it. For certain specialised businesses, such as law firms, there are strict criteria of who can and cannot hold an interest in the business.
This makes it extremely difficult for an executor to deal with any membership interest of the deceased and highlights the importance of having a Partnership Deed or Members Agreement in place to formalise, among others, what happens on the death of a member.
A company limited by shares will continue as the business has its own distinct legal personality. The value of the shares, which will be the underlying value of the business, will be attributable to the estate and may qualify for relief from inheritance tax.
The steps that need to be taken to ensure the smooth continuation of the company will be dictated by the number of shareholders, the nature of its activities, and the expertise involved conducting those activities.
A limited company solely owned by the deceased with the deceased using it as a vehicle to give extremely specialised advice that no other person can give will unlikely be able to continue trading. The value of the business will be significantly decreased by the death and may need to be sold or wound up to realise the remaining value. It is not uncommon for an executor of an estate to sell the business if the driving force of the business is no longer present – indeed, it would be a sensible option to realise the value before the value reduces further. However, a sale may not be possible in which case the business is likely to be wound up.
However, where there are two or more shareholders in a company, the remaining shareholder(s) may be well equipped to continue trading despite the death. In these circumstances, it’s important that the company’s articles of association, often underpinned by a shareholders’ agreement, detail the mechanisms of how any deceased shareholder’s interest in the business is dealt with.
Often, it is agreed that the remaining shareholder(s) have the right of first refusal to buy the deceased person’s interest in the business and an appropriate valuation method would be sought. It is common for an insurance policy to be put into force, paying out on the death of a shareholder to the surviving shareholders who then use the proceeds to fund the purchase of the deceased shareholder’s interest.
A cross-options agreement provides a similar outcome but fails to make provisions in respect of other eventualities that should be addressed. It is usual for an insurance policy to be put into force, the proceeds of which can be used by the remaining shareholder(s) to purchase the deceased person’s interest.
If the above arrangements are not in place, the executor, and subsequently the beneficiary or beneficiaries to which the interest is transferred, will have a continuing interest in the business or the shareholding can be sold (albeit it is likely that the sale will need to be approved by the remaining shareholders or directors of the company).
Depending on the number of shares held, the executor may look to be appointed to the board to help guide and steer the company. The executor, and beneficiaries, will need to consider whether it is appropriate for them to help steer the company at board level and, if not, whether instead they should allow the remaining board members to continue without them or hire an appropriate person to advise them. This is as often the executor or beneficiaries will have no experience in the business.
The directors of a limited company need to ensure that decisions are made in the best interest of the company; not adhering to this would leave them open to a breach of duty claim by shareholders. Therefore, where the wishes of the deceased are contrary to what’s best for the company, the directors, including the executors/beneficiaries if they are so appointed, will need to make decisions in the best interest of the company.
Shareholding into trust
The deceased, may by his or her Will or in his or her lifetime, and subject to any restrictions in the company’s articles of association, choose to settle their shareholding in a limited company into trust.
Placing qualifying shares into a discretionary trust may be advantageous if there is inheritance tax relief available as it allows for the deceased, through his or her trustees, to retain some control over the shareholding after death.
The discretionary trust can include all family members, and others if desired, that the deceased wants to provide income for as beneficiaries. The dividends attributable to the shareholding would then be paid to the trustees and the trustees would then, at their discretion, pay the income (after paying income tax) to the beneficiaries as required.
This would allow for the shareholding to be retained and income divided between the deceased’s family. The deceased may wish to leave a letter of wishes advising his or her trustees of how they would hope the trust is used and how income is paid.
James Worrall is a Partner in the Corporate Team and Amish Patel (pictured) an Associate in the Private Client team at the law firm Royds Withy King.
[Main image: sedk, luca-bravo-9l_326FISzk-unsplash]
