Effective will drafting is a critical part of business succession planning, ensuring a smooth transition and continuity for the business after the owner’s death. Overlooking the nuances of business arrangements can lead to unintended consequences. This article outlines the essential checks and key documents that must be considered when preparing wills for business owners.
Reviewing the Business Structure
The first step in drafting a will for a business owner, and in planning for business succession, is to identify the precise nature of the business structure. These are:
Sole Traders
This is a business owned and operated by one person. That person is entitled to all profits but is responsible for all losses and liabilities. The business and the person are legally indistinguishable and, as such, the sole trader is personally liable for all debts of the business.
Personal Representatives (PRs) only have the power to continue the business in order to wind up affairs, unless the will provides otherwise.
On death, the business ceases to exist and cannot be gifted in a legal sense, but the business assets can be gifted by will. Any beneficiary could use the assets to start trading in their own right but would effectively be creating a new business.
The death of the sole trader will also cause the employment of any employees to cease.
Partnerships
A business operated between two or more people. Partnerships are governed by the Partnership Act 1890 unless a partnership agreement states otherwise.
A partnership does not have a separate legal personality. Unless provided otherwise, all partners have an equal right to participate in the management of the partnership and share profits equally. Partners are jointly and severally liable for all debts of the partnership.
Succession is dealt with either by the Partnership Act 1890 or by the partnership agreement. If there is no partnership agreement, the partnership is dissolved on the death of a partner.
If there is a partnership agreement and the partnership continues after death, beneficiaries will not automatically become partners. If the intention is for a beneficiary to become a partner after the testator’s death, the beneficiary must come to a new agreement with the partners.
Limited Companies
A limited company is a separate legal entity; it may be a private limited company or a public limited company. Shareholders have limited liability for the debts of the business.
The company will continue to exist regardless of any shareholder or director’s death. Shares in the company can be gifted by will, subject to any restrictions in the company’s articles of association or any shareholders’ agreement.
If a person is a director of a company, their appointment ends on death and the position cannot be gifted by will. If a new director is needed, the terms of the articles of association need to be consulted.
Limited Liability Partnership (LLP):
An LLP is a hybrid structure, combining features of partnerships and companies. It is governed by the Limited Liability Partnerships Act 2000. It is its own separate legal entity and members have limited liability, but LLPs are generally treated as partnerships for tax purposes.
The LLP continues to exist independently of changes in membership. The LLP agreement will detail how an interest can be dealt with on death.
Documents to Review
Depending on the business structure, there are a number of different documents that will need to be reviewed as part of business succession planning.
Partnership Agreement
If a partnership wishes to vary the default position of the Partnership Act 1890, the partners must create a partnership agreement detailing their various responsibilities. This is essential if they wish to avoid the partnership being dissolved upon the death of a partner.
The partnership agreement will detail the extent to which the deceased partner’s interest is giftable and should therefore be reviewed. For example, it may include provisions that the beneficiaries will be paid a deceased partner’s share from ongoing profits for a period of time. It will also likely include a method for valuing a deceased partner’s share.
Articles of Association
This is a document for a limited company which forms part of the company’s constitution. It is a legal requirement for forming a company and the articles will set out the various responsibilities of directors and shareholders along with any rules or procedures that need to be followed.
These may be model articles (default standard articles provided by the Companies Act) or bespoke articles.
It is important to check the articles of association for a number of reasons, as they can have a significant impact on business succession:
- Existing shareholders may have the right of first refusal to purchase shares from the deceased’s estate.
- There may be restrictions on the transfer of shares on death, e.g. requiring board or shareholder approval or only to specific people.
- The company may have the right or obligation to buy back shares from the estate.
The articles of association will also be relevant if the testator is a director of the business. If they are the sole director, a new director will need to be appointed following death. If there are surviving shareholders, the shareholders will be able to appoint a new director.
If the testator is sole director and sole shareholder, this may cause a problem. Modern articles of association include provisions to allow the PRs to appoint a new director following death. Older articles of association, however, do not often include this provision. Without the ability for PRs to appoint a new director, the company will be at a standstill: no director can be appointed without shareholder approval, but new shareholders cannot be registered without director approval. In this situation, a court application would be required.
Shareholders Agreements
A shareholders’ agreement is a contract between the shareholders setting out their rights, responsibilities and obligations to each other. It is not a legal requirement for the shareholders to have one, but they may choose to do so.
Similar to the articles of association, shareholders’ agreements may include provisions on how shares can be dealt with on death and therefore should be consulted.
Cross Option Agreements
Cross option agreements are commonly used in succession planning for companies with multiple shareholders. Under these agreements, each shareholder grants to the other shareholders put and call options over their shares that are exercisable on death. What this means is each shareholder gives the right to sell their shares and the right to buy other shareholders’ shares. This is normally linked with a life policy that pays out to the surviving shareholders, so, effectively, it will allow the shareholder to buy the deceased’s shares from the estate.
LLP Agreements
The LLP Agreement will need to be reviewed to determine the extent to which the deceased member’s share is giftable by the will. Similar to a partnership, if the share is giftable, the beneficiaries will not automatically become members of the LLP and this would need to be negotiated by the beneficiaries with the existing members.
Conclusion
Drafting a will for a business owner is a vital element of business succession, requiring careful consideration of the business structure and associated legal documents. Failure to account for these factors can result in unintended consequences. By reviewing all relevant documents, practitioners can ensure that the testator’s wishes are properly reflected.
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