18 September 2020

Don’t let all your hard work die with you

Owner managed and family owned businesses are the bedrock of our economy and can produce great wealth for the hardworking owners.

While these businesses are not often set up for successive generations in the first instance, if the business flourishes it soon becomes evident that this could provide financial security for the family; whether that be employment, income or future capital return. This objective is helped by the tax advantages of leaving a privately owned trading business to your children, as the current tax law allows these shares to be passed free of Inheritance Tax with a Capital Gain Tax base cost uplift.

Yet, without undertaking adequate succession planning, on the death or the loss of capacity of the director(s) and/or shareholder(s), your company and your loved ones may instead be surrounded by disruption, uncertainty, and conflict. They may also lose the tax benefits afforded to them.

Why is succession planning important for your business?

If a company’s constitutional documents (articles of association and shareholders agreement) do not sufficiently deal with what happens on the death of a director and/or shareholder, this can provide practical difficulties which may prevent the company from carrying on business as usual.  In reality, personal estate planning is only one facet of global succession planning – you should not overlook company succession planning.

For owner-managed or family-owned businesses, succession planning can allow you to plan for the continuity of the business in the event of death or loss of capacity. It allows you to plan for the future structure and growth of the business, transferring ownership when the time comes, expressing your wishes, and providing for your family and beneficiaries both now and in the future.

These can be very difficult conversations to have with a founder or a person who has run the business for most of their life. I have often encountered half-hearted attempts to hand over the business to children but still see control and ownership resting with the parent.

What do you want to happen to your business interests when you die?

As the owner of private business there are two key planning issues which you will need to consider in the context of what happens if you lose capacity and on death with regards to the long-term success of the company and the preservation of family wealth.

There are a number of questions you should be thinking about:  

  • What happens if a sole or majority shareholder dies or loses capacity?
  • What happens if a director dies or loses capacity? What happens if this director is the sole director?
  • Does the personal estate planning you have undertaken to date align with the aims of the business? You may have left company shares in your Will to particular individuals but you should think about how this works with your company’s articles of association and any shareholders agreement that you may have in place.
  • Do the company’s articles of association/or shareholders agreement contain pre-emption rights on the transfer of shares?
  • If you want your shares to be transferred to your business partner or a family member when you die, how will the transferee fund the purchase of your shares?
  • Do you have suitable life insurance in place to facilitate the funding of the transfer of your shares on death?
  • If you do have insurance, does this align with the relevant provisions in the company’s articles of association?

Death is a traumatic event for the deceased’s family, friends and those involved in the business. A lack of succession planning or inadequate planning can have significant unintended repercussions. 

For example, companies that are family owned/controlled may find that the deceased’s shares are transferred outside of the family. Alternatively, it may result in family members, such as the deceased shareholder’s widow or widower, suddenly having a majority ownership of a company which they have no desire or experience to run.

What actions can be taken?

Simple and immediate actions can be taken now to make sure a business survives the first few months of a death of a key person. For instance, I would consider having more than one director, so that the company is not frozen after the death of the sole director. I would also make sure that financial details and bank accounts are not just restricted to that person to provide continuity for payroll, orders, transactions etc.

Long term actions need to be considered alongside whether the family want to keep the business going after death or want to extract value at death.  A well-drafted Will can facilitate Inheritance tax planning surrounding the company and prevent shares being split up between a number of children. The use of discretionary trusts can preserve the shares as one unit and hold the business away from direct ownership by family members.

It is also worth considering life insurance to pass on wealth to the next generation or to facilitate a purchase of shares by a business partner. Often private businesses are illiquid so injecting insurance money into the structure in a careful manner can allow for value to be extracted but for the business to continue.

These issues are very real and if not prepared for, can cost the family money, unity and future value. I would always recommend that business owners get proper legal and financial advice surrounding the succession of their businesses as soon as possible, because when it is too late the options greatly dwindle. 

James Ward is a partner and heads the Private Client team at Kingsley Napley.
The above must not be taken as advice and is generic. Advice should be tailored to an individual situation and it would be strongly recommended that such professional advice is sought on any of the above.

Illustration by Jordan Atkinson

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