Simple Solutions to Three Business Problems You Will Eventually Face

The three situations we'll take a look at in this series of posts relate to some of the serious consequences faced by a business and various stakeholders in the event of the death of a shareholder. In this post, an overview is offered by way of introduction to the concepts.

First Scenario

When a shareholder in a business dies (and everybody eventually does!), a potentially disastrous situation follows. His estate needs to be wound up, and that includes disposing of his shareholding in the business.

The business owner's heirs would like to either take control of the business or receive fair value for it by some kind of a sale of the business.

His business partners would like to be in a position to continue with the business unhindered by an inexperienced heir or by a new shareholder previously unknown to them.

Since deaths are not scheduled, it is unliklely that provision would have been made for funds to buy the deceased shareholder's share from the estate or the heirs - and in any case, the heir would probably have a different idea of fair value for the share in the business, and given the fact that a shareholder has just died, the banks may be unwilling to extend any loans to buy shares.

This situation is easily addressed using a "buy-and-sell agreement". This agreement enforces the sale of a deceased shareholder's share in a business to the surviving partners on terms agreed in advance and the purchase price is provided by the proceeds of specially structured life assurance taken on the lives of the shareholders.

Keep an eye out for a more detailed post on Buy-and-Sell Agreements in the near future.

Second Scenario

Another potentially devasting consequence of the death or disability of shareholder has to do do with their role as "key person" in the business. A key person is someone whose specialist skills, capabilities, experience, finances and contacts have an important role to play in the profitability of the business.

Without this person, the business may become less profitable or lose clients. Banks may decide to call in loans and sureties or refuse additional lines of credit, potentially crippling the business.

Once again, this situation can averted using life assurance - the company takes policies on the life of key individuals (owners or employees) in order to provide cash to assist with replacing a key person, supporting the creditworthiness of the business or providing reserves to weather a period of poor income. This special life assurance structure is know as "key person assurance".

Look out for a more detailed post on Key Person Assurance.

Third Scenario

It is common for shareholders in a business to sign personal surety for loans taken by the company. Such loans may be for start-up capital, vehicles and equipment, overdrafts or company credit cards.

Upon the death of a shareholder, lenders may require immediate settlement of debts since the guarantor has passed away, or because no alternative guarantor is available. If the business is unable to settle the debts, the lender can claim the outstanding amount from the estate of the deceased shareholder in terms of the surety signed.

A claim against the estate of the deceased shareholder could leave his heirs in financial difficulty.

This situation is dealt with by setting up a life assurance arrangement known as Contingent Liability Assurance on life of the shareholder who has signed surety, and owned by the company. A contract is set up between the shareholder and the company in terms of which the company agrees to settle all the debts for which surety has been signed using the proceeds of the policy.

A complete discussion of Contingent Liability Assurance will be posted on the Mark my Words Blog soon.