Having the foresight to protect a business against something happening to the owner, main shareholders, or key personnel can mean the difference between business as usual or closing up shop.
To do this, shareholders often take out insurance covering each other’s lives up to an agreed amount or up to the purchase price of the shares of the insured person. This “buy-and-sell insurance” requires the other shareholders to buy the shares of the deceased or disabled shareholder in terms of the shareholders’ agreement.
The value of the insurance policy will be used by the surviving shareholders to pay for the interest of the deceased or disabled shareholder in terms of the values stipulated in the shareholders’ agreement. The terms for the purchase and sale of the shares can be dealt with in the shareholders’ agreement or in a separate buy-and-sell agreement.
Having a valid buy-and-sell agreement or shareholders’ agreement will ensure that your beneficiaries receive fair value for your shares in the business.
It is important to note that the owner of a life insurance contract, or the beneficiary nominated in the contract, will be paid the value of the insurance policy, regardless of whether your Will leaves the insurance proceeds to somebody else. The owner or nominated beneficiary of the insurance contract overrides any provisions in a Will.
How buy-and-sell insurance works is that shareholders agree amongst themselves on who will buy their shares, the valuation method and manner of payment, should they become disabled or die. The payment is secured by shareholders insuring the other shareholders’ lives
In addition to insurance which is to be used to purchase shares, “key man insurance” may also be taken out by the company, insuring the lives of working shareholders or key management. The policy is owned by the business and the proceeds of the insurance will be paid to the business to ensure its survival. The impact of taxation on these insurance policies should be taken into account.
Your Will can deal with the distribution of the value of your shareholding in the business, after the proceeds have been paid to your estate. The value obtained for your shares in the business and the manner of payment of the purchase price by the remaining shareholders will be dealt with by the shareholders agreement.
It may be tempting to Insure your own life and make the other shareholders the beneficiaries or cede the policies to them, but it’s advisable not to do this, as it will cause the value of the policies to be included in the estate of the deceased shareholder.
It’s also best not to try to regulate the value of your shares or the sale of your shares through your Will. This will be done through the shareholders’, or buy-and-sell, agreement.
Buy-and-sell insurance contracts should provide all or most of the purchase price of a business owner’s shares. Other insurance products to consider are key man insurance, and personal accident insurance.
To ascertain the amount to insure for, work out how much it would cost to replace and train a key individual as well as the impact of the loss of an individual on the sales and profitability of the business.
Before signing them off, make sure that your shareholders’ agreements or buy-and-sell agreements are reviewed by a legal adviser in conjunction with your Will. This will prevent any conflicting provisions in any of the documents.
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