Succession planning – key legal aspects

Think succession planning think exit planning think tax planning – all of these terms are generally synonymous in most small business or family business’ thinking as retirement approaches. However, there are potential legal issues which also need to be considered at a much earlier stage. Many businesses are classified as family businesses but what does

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Think succession planning think exit planning think tax planning – all of these terms are generally synonymous in most small business or family business’ thinking as retirement approaches.

However, there are potential legal issues which also need to be considered at a much earlier stage.

Many businesses are classified as family businesses but what does that mean ? There are various definitions depending on where you look. Some definitions classify a family business as a business where all the shareholders are from the same family. In contrast wikipaedia, for example, defines it as ” business in which one or more members of one or more families have a significant ownership interest and significant commitment”, so not necessarily the same.

An interesting article this week suggests that some 60% of those who own family businesses plan to pass the business on to their family, whilst only a relatively small proportion have a plan in place to follow through their intention. Early and careful planning are essential to saving money and protecting the business going forward.

Whatever the definition, it is important to keep the following in mind :-

  • Plan early, even at the beginning – many businesses are set up as limited companies and have shareholder agreements – if you want to be able to choose who gets your shares, you need to think about pre-emption. Unless you overturn the presumption or express agreement towards pre-emption, other shareholders, who may or may not be family members, will be entitled to buy your shares. So you will get money but you won’t be able to transfer control to the members of family you want to, such as your children.
  • Valuation of shares – what will your shares be valued at and can you transfer them to a family member for nothing or at under market value ? Don’t assume you can necessarily gift your shares for nothing.
  • Position at director level – remember that whilst you may have a significant shareholding in a business, that doesn’t necessarily equate to day to day control. The directors of a company have day to day control, not the shareholders. You may not necessarily, even if you are a director, be able to ensure that you can resign and be replaced by a director of your choice. This will depend on the company’s articles or shareholders agreement as to process for appointing directors and necessary control at shareholder level, in terms of percentage, to push through the sale.
  • Look at the bigger picture – you may well be thinking of extracting some value from the business for your retirement but you may well also be thinking about preserving value for your spouse, children or other relatives. The latter is likely to mean that if there is  a change in shareholders and/or directors, the new entrants will need to get on with other remaining shareholders and directors. Differences of opinion or, even worse, full blown disputes, can literally destroy a business, so it’s important to consider how things may pan out, even if you have the ability to force through a change in shareholders and/or directors.
  • Forward planning – we cannot advise you on tax issues but in legal terms, you may wish to think about policies on dividends which may assist in your succession planning.
  • Does succession mean exit ? – with many small businesses, the success or failure of that business is inextricably linked with just1 or 2 people in it, often the founders who have built the business and understand it like no-one else can. Clients or customers may also associate the value of dealing with that business closely with the value of dealing with the owner. A rapid and full exit may be bad for the business. The though of retiring may be very attractive, but many find that, having led a very active and committed business life, stopping suddenly and completely leaves a huge vacuum. Consequently, it is often worth considering a phased exit or a consultant role.
  • Setting up a trust ? – is it worth considering setting up a trust and putting your shares into a trust. Tax planning would be important in those circumstances.

dserota-sbIf you want advice on succession and/or exit planning, or in relation to a shareholders agreement or articles of association for your business, please get in touch with me. Useful general legal tips for your small business also here on the site.

 

commercial law • Debbie Serota

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