It is a subject few relish discussing, but thinking about how to protect your business in case of illness or death is vital to ensure your enterprise and your family are looked after if the worst happens.
Preparing a business will and reviewing measures already in place can alleviate some of the stress at what is likely to be an already difficult time, as well as helping to keep a business functioning.
Those operating companies and partnerships need to draw up agreements properly to plan their business’ future, says Katie Machin, financial consultant for NFU Mutual.
“It’s not a nice thing to think about, but what would happen to your business if a partner is ill or dies? If there is no agreement in place, the portion of the business will pass under the terms of the deceased’s will.
“If they have a spouse, the assets probably just pass to them. The spouse may wish to continue drawing an income, or they may wish to sell their interest in it. It’s possible the surviving partners won’t want the spouse involved, or they might want to stop them from selling their share.
“It’s the same with serious illness. If a shareholder is unable to work, would you feel they were still entitled to a share of the profit? These situations throw up lots of questions.”
The solution is a partnership or a shareholder agreement, said Mrs Machin.
“It’s essentially a business will. It dictates what happens to shares or the business if anything happens to a partner or shareholder and will create a clear plan in case of death, illness or retirement.”
A regular review of these plans should be carried out to ensure you have that which best fits your business and financial circumstances, said Mrs Machin.
There are essentially four types of agreement:
• Automatic accrual. The most straight-forward agreement, where the share of the business automatically passes to the remaining partners or shareholders in certain prescribed circumstances such as death, retirement or serious illness. However, this is a transfer with no cash changing hands.
• Buy and sell agreements. In the event of death of one of the business owners, their estate is obliged to sell their share of the business to the surviving business owners, who in turn are obliged to buy. However, this creates a binding contract for sale leading to the loss of any available Agricultural and/or Business Property Relief, so assets may be exposed to 40% Inheritance Tax. If you think you have one of these agreements, it is important to review as soon as possible, advised Mrs Machin.
• Single option. Can work well in cases of serious illness. If a partner falls ill they might want to retain their share in the business but this type of agreement gives them the option to sell their share in the future (and obligation to buy?).
• Cross option. This works like a single option but is given to both parties. If a partner dies the family has the option to sell the deceased’s share to the remaining partners. If one party wants to exercise their right, the other party must comply. This arrangement preserves the ability to claim both Agricultural Property Relief and Business Property Relief.
“The important thing is to seek expert advice,” says Mrs Machin. “If you have nothing in place, set up a formal agreement. Establish a value for the business, ideally through an accountant.
Insurance cover should also be reviewed. “Businesses can change quite rapidly so any insurance arrangement needs to be able to provide appropriate compensation for the business.”
Sole traders should also consider what protection they might need for their businesses, said Mrs Machin, with insurance an option to keep things running at critical times.
Critical illness cover or income protection can help protect the family finances while life insurance can provide an income to support family or pay contingency workers before the next generation is able to farm. Alternatively, it may pay for contractors to come in and run the farm.
Key person cover can also help the business to get through the death or serious illness of a key worker. The decision to insure key worker depended on impact their absence could have on the business, said Mrs Machin.
“Different businesses will require different plans, but the key is to think about how these issues can be tackled now rather than leaving it too late.”
Key person cover
- Key person cover is short term – five years or less
- Covers death and serious illness
- Cover may be a tax deductible expense
- Proceeds normally subject to tax