If you’re an accountant or solicitor, it’s likely you will have clients who are directors or shareholders of a limited company. If so, it might be worth asking whether they’ve considered what could happen to their business if they were to die.
While nobody wants to consider their mortality, encouraging your client to do so may help ensure their family is left financially secure and the future of their business is also safeguarded. While no business owner or director would want their company to be sold to a competitor, it is one of the possible outcomes if a strategy is not put in place.
Read on to discover why this might happen and steps your client could take to protect their family’s financial security and their company’s future.
After death, your client’s firm could be put in jeopardy
Your client will probably want to leave their business to their spouse or family, as they may feel this will help secure their financial future. If they do, there are likely to be four outcomes once the shares have been passed on. These are:
- Family member/s who inherit the shares become involved in the business, whether they have prior knowledge or not.
- Fellow directors raise enough funds to buy the shares from the family, which might involve a large loan being taken out against the company.
- Depending on how many shares are passed on to loved ones, the family might force the business to be wound up.
- The family sells their shares to a competitor or someone who does not know the business to release equity.
These outcomes could carry dire consequences for your client’s business, which they have probably worked hard to build up alongside their fellow directors. The good news is that there is action your client could take to ensure these outcomes don’t happen, so let’s consider two ways they could do this.
1. Shareholder protection ensures directors can buy shares from family
If your client wanted to protect their company from the above outcomes, they could consider shareholder protection. This is life cover for your client and fellow directors, which would provide a lump sum for the surviving shareholders if any of them die.
The cover is usually for the value of the shares held by each director and used by the remaining directors to buy the deceased’s shares. This provides a lump sum for their family to help secure their financial future.
Typically, cross-option agreements are created to ensure the smooth transfer of the shares. The agreements form a legal obligation for your client’s family to offer the inherited shares to directors, and for the directors to buy them.
2. Relevant life cover could allow your client to leave shares to fellow directors
If your client wants to leave their shares to fellow directors, but is concerned that doing so might leave loved ones without any financial support, they could consider relevant life cover.
This is life cover that a company provides for employees, which includes directors. Any payment made following your client’s death could be made to the family, while the shares go to fellow directors.
The main difference between shareholder protection and relevant life cover is that the latter is focused on protecting an employee’s family in the event of a death, not shareholders. That said, it could provide an alternative way to ensuring shares remain with the existing directors.
Your client can use relevant life cover to provide financial security for their family, allowing them to then leave their shares to the surviving directors. This ensures the company’s ownership remains with the people your client trusts.
Another advantage of relevant life is that it’s treated as an allowable business expense, making it more tax-efficient as neither employers nor employees pay Income Tax or National Insurance on premiums.
The company could also deduct the premiums as a business expense, helping lower its Corporation Tax bill. It should be pointed out that it is typically not available for limited liability partnerships or equity partners.
If your client falls into either of these categories, they might want to leave a lump sum for their family using their death in service package. That said, care should be taken.
As death in service is typically part of a pension package, it has the potential to push your client over their Lifetime Allowance, which in 2021/22 is £1,073,100. The allowance will remain at this level until 2026 following the chancellor’s decision to freeze several allowances and thresholds.
If your client breaches the allowance, the death in service payment could incur a tax charge of up to 55%. For this reason, they should speak to a financial planner to confirm whether this could happen, and what their options might be.
Get in touch
If your client is a director and would like to discuss shareholder protection or Relevant Life cover, please contact us at hello@ardentuk.com or call 01904 655 330. As award-winning specialists in financial planning, you’ll have peace of mind that we’ll work to find the most appropriate and cost-effective solution.
Please note
This article is for information only and is no substitute for financial advice, so please do not treat it as such. Do not make decisions based on anything you might read in this article. All contents are based on our understanding of HMRC legislation, which is subject to change.
