How to protect your business after your death

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How to protect your business after your death
Photo by Yan Krukov from Pexels

Dealing with your will and ensuring your nearest and dearest are taken care of once you are gone is one thing, but for entrepreneurs particularly, special attention should also be given to how and to whom their business – or shares in their business – will pass.

First instincts

Your first instinct could be to leave the business to your significant other so they decide what to do with your shares. Or you may simply think it is enough to leave your shares in the business to become available to the other shareholders.

Yet if much of your wealth is bound up in the business itself, you also want to ensure your family gets the benefit you intended from all your hard work. Sadly, many entrepreneurs fail to make proper arrangements in advance of their death to deal with these issues, especially if they die unexpectedly.

An entrepreneur cannot dictate exactly how his or her business is run after their death Amish Patel, Royds Withy King

Tim Walford-Fitzgerald, private client partner at HW Fisher, says: “It is very common for people not to plan. For many entrepreneurs and business leaders, they assume they will have already sold out or wound up their business before death. It is also a difficult topic to discuss; very often they don’t want to upset family by implying that they can’t run the business and don’t plan at all.”

Lack of planning

Amish Patel, associate at law firm Royds Withy King, says this lack of planning can lead to a number of issues arising on death, “including the business ceasing trading/losing value and goodwill”.

He adds: “An entrepreneur cannot dictate exactly how his or her business is run after their death as this will depend on a number of factors, including the economic climate. However, the entrepreneur can appoint people he or she trusts as executors – who may in turn also appoint people with the necessary expertise in the business – to make sure the business can continue as a going concern. Provided the business can continue, it will then be up to the new owners, once the estate administration is over, as to how the business is run.”

Choosing how your shares are passed on in your will makes sense, but the best way to do this to ensure not only that your loved ones are cared for but that the business continues to thrive is very individual and will depend on the “nature of the business, and what the entrepreneur wishes to happen to the business after death”, says Patel. 

Size matters

To some extent, the way shares or business assets are passed on will also depend on the size of the business. For example, smaller companies with a sole owner are likely to encounter different issues to a medium-size company with other owners and more staff, says Andy Butcher, branch principle and chartered financial planner at Raymond James.

He adds: “For some of the smaller companies we deal with, the business would likely wind down upon the owners death as they were the sole earner, so there isn’t much value to the remaining business.

“We do have a couple of businesses with two or three owners where we set up shareholder protection, which will pay out a lump sum in the event of one of the shareholder's deaths. But unless there is a legal agreement in place, this often won’t protect against some of the issues a death raises.”

For larger businesses or those with a definite capability to continue trading after a key shareholder has died, there are a variety of approaches that can be taken, including appointing the correct management team to move the business forward, or for the business as a whole to be sold to a third party.

Walford-Fitzgerald adds: “Some, especially jointly owned businesses, have more sophisticated mechanisms to allow the continuing partners or shareholders to buy out the deceased’s interest. There are often life policies in place to fund this. However, we would urge businesses to ensure careful planning here because poorly structured arrangements can result in inheritance tax being payable.”

Using shareholder agreements

If a business is not being left to the surviving spouse, then shareholder agreements should be put in place, says Walford-Fitzgerald. But if there are other assets outside of the business to be left to family while the business will continue to be owned by others, then it is vital to consider the various ways you can use business property relief to minimise IHT obligations.

Walford-Fitzgerald adds: “For example if you would like to leave your cash to your daughter and the IHT-exempt business to your widow, then, subject to values, you would leave them the other way around and the daughter would sell the shares to the widow or widower. The daughter would not pay IHT on the shares – but would have on the cash – and the widow or widower’s legacy is exempt anyway. Two years later, the shares are exempt from IHT again, so there is no liability on them when the widow or widower passes away (assuming he or she survives their spouse by two years or more).”

While a letter of wishes can be left to outline how the entrepreneur wanted the business to continue running, this is not legally binding, and any such wishes would need to be considered in light of economic conditions. So, it is vital to discuss succession plans not just with your family, but also business partners and the business management, says Butcher.

He adds: “For example, my business partner and I have insurance in place to buy the company shares from the deceased’s partner, and we have a loose agreement on how the company will be valued, depending on the viability of it trading after the death of one of the owners.

“Key man insurance will help to cover the costs of hiring a replacement, but there is still no guarantee that income, and therefore the value of the business, will not fall in the months and years after a death. So, we think it’s important to have an agreed buyout structure based on similar terms to a sale in the open market.

“But we do not want to put in place a legal agreement, as it may be in the best interests of the deceased family to retain the shares and wait for an exit of the full business at a later date, or just to continue to receive an income from the business. By discussing this with our families, we know what the rough plan would be, which would make it harder for the surviving business partner to pull the wool over the eyes of the deceased’s family – even though you would hope that would be unlikely.”

Business risks

The risk for many businesses where the shares are simply passed to a surviving spouse is that the spouse has the option to sell the shares to an external third party, which could result in a takeover of the business by a competitor. This could be bad news for the remaining management team.

Butcher says: “If an entrepreneur wanted to try and ensure the continuation of their business, they could look at an employee ownership model, such as an employee ownership trust.”

Patel, like Walford-Fitzgerald, recommends that businesses also consider a shareholders agreement to help regulate the relationship between the shareholders. This would confirm how the company is to be managed and would protect shareholders after the death of someone with a controlling interest.

He adds: “The agreement can also include pre-emption rights – which may be in the articles of the company too – and this pre-emption right may give the other shareholders the right to purchase a deceased person’s shareholding. Partnerships will often have succession rights built into a partnership deed addressing the same issues.”

No matter how an entrepreneur ultimately decides they want to pass on their business assets on death, they should take advice from their financial adviser, their accountant, and their solicitor to make sure the correct structure is in place to protect the family and the business from any unnecessary financial or tax liabilities that could arise.

Walford-Fitzgerald says: “Properly qualified advice is advised as there are some pitfalls that must be avoided and ways around them that can be suggested. No single answer suits everyone and it is important to discuss individual circumstances, and then keep [it] under periodic review.”

Alison Steed is a freelance journalist