In my last article, Shareholder Agreement is a Plan for Success, (www.cbelaw.com) I gave an example of why a Shareholder Agreement is worth the time and investment to discuss with your legal advisor. More important than your legal advisor is discussing this with your partner with whom you are going to work “shoulder to shoulder” each and every day.
We were discussing a pub operation started by 2 friends. Now we assume that after 2-3 years of operations, the pub business is profitable. The Company has been acquiring capital assets such as leasehold improvements, furnishings, dispensers, promotions vehicle, marketing programs. Let’s put some numbers to this business and say it is worth $300,000.00. If your partner dies or is incapacitated where are you going to come up with $150,000.00 to buy out your partner?
Your purchase of key person life insurance is a prudent business decision.
In the event a shareholder dies, the insurance will fund the purchase of the deceased’s shares in your company and will provide cash for the deceased’s estate and family. The orderly payment and transfer of shares to the surviving shareholders will provide stability for the business.
Insurance for Buying and Selling of Deceased’s Shares
These are the common issues that shareholders must consider when purchasing insurance for the buying and selling of a deceased shareholder’s share:
How much insurance is required?
What is the value of the shareholdings?
When should a valuation be undertaken- at financial year end, date of death?
What is the generally accepted valuation method of the shares- a multiple of annual profit or earnings, fair market value of the assets?
If face amount of insurance policy is greater than the share value, who receives the surplus?
If face amount of insurance policy is less than the share value, what are the terms for the payment of the shortfall?
Who pays the insurance premiums?
Who is the owner of the insurance policy and who is the named beneficiary?
What corporate and tax procedures should be followed for the purchase of the deceased’s shares that will provide the optimum tax savings for the deceased’s estate and the highest adjusted cost base of the shares for the surviving shareholder?
The goals of purchasing insurance are to:
provide a set of procedures that will enable the orderly sale and purchase of shares;
provide a market for the shares (ie. current shareholders or third parties);
ensure control of the business is kept with the operating shareholder;
preserve the goodwill of the business;
avoid litigation; and
preserve the good relationship of the shareholders.
I hope that this article has given you reason to plan carefully. There are the business plans and projections, financing, marketing plans, supplier agreements, loyalty programs and all those other elements that go into making your business your daily passion. That is the creative energy you inject as you build the business. The Shareholder Agreement will give you a roadmap when you have to save your business from the downhill slide.
