How can I protect against the death of a shareholder in my business?

The death of a shareholder can be incredibly disruptive to a business.

The deceased shareholder’s shares would be inherited as per their will, or the law of intestacy if they do not have a will, often by their spouse and/or children. These beneficiaries would end up ‘in-business’ with the remaining shareholders, potentially with a controlling stake.

They are likely to have differing priorities to the remaining shareholders and could even sell their shares to a third-party.

In most cases, we find that shareholders would prefer their beneficiaries to receive the cash value of their shares and the surviving shareholders to retain ownership and control of their company. This is where shareholder protection can help.

Shareholder protection insurance provides a contingency, in that on the death of a shareholder, the surviving shareholders receive an insurance pay out which can be used to purchase the deceased shareholder’s shares from their beneficiaries. The insurance pay out can help a business avoid dipping into capital reserves, borrowing funds or being obliged to pay for the deceased’s shares over several years.

This insurance is aligned with a legal mechanism, incorporating the shareholder agreement, articles of association and commonly a ‘cross option agreement’, which protects all parties and maximises tax efficiencies. This legal framework provides the security and clarity to all parties - if either the remaining shareholders or the deceased’s beneficiaries wish the transaction to proceed, both parties are obliged to.

Life insurance is medically underwritten and its costs are determined by the amount and timescale of cover required, an individual’s age, lifestyle, state of health and medical history.

If shareholders also wish to mitigate the risk of serious illness, critical illness cover can also be included, along with life insurance.

The arrangement should be reviewed periodically to ensure it remains relevant, given the value and needs of any business will change over time.

Where the deceased shareholder was key to a business’ function, other types of cover, such as key person insurance, may also be appropriate.

Business protection planning is a complex area and the above is designed to provide only an overview of how shareholder protection can work. The information detailed above does not constitute advice. We recommend getting advice from a qualified independent adviser.