We already help you to insure your property, tools, computer equipment etc, but have you thought about insurance for your most important assets?
In assessing business protection needs, it is crucial that you consider the impact the loss of a key person, partner or shareholder would have on your business.
Ask yourself what would happen if your top sales person was to suffer a critical illness?
What impact would that have on revenue?
Would the business have enough funds to survive until a replacement was found?
What would happen if one of the partners in the firm died?
Would the remaining partners have enough funds to buy out the deceased’s partner’s share from their estate?
Here is a guide to Business Protection and how it can help to protect your company should something unforeseen happen.
What is business protection?
The importance of business protection is often overlooked. It helps business owners plan for the unexpected by ensuring the business can continue with minimal disruption following the loss of one of their key employees or one of the business owners through death, critical illness or temporary disablement.
Furthermore, did you know that business loans, overdrafts etc all become payable on the death of a Director, business protection can finance settling the balances without you needing to delve into reserves.
What are the different types of business protection available?
Business protection is available for partnerships (including limited liability partnerships), limited companies, sole traders and key employees. It can also be used to ensure repayment of a business loan in the event of death or critical illness of a partner, key person or sole trader. How the arrangement is set up will depend on the type of business and its particular needs. Below is a summary of the most common types of business protection arrangement.
Key person protection
There are two solutions for key person protection for limited companies:
- life of another
- own life in trust – see below
Under the life of another solution, the company takes out a plan on the life of the key person. If the key person suffers a critical illness or dies, the plan benefits will be paid directly to the company. The funds can be used to meet the company’s financial needs while it re-organises or recruits a replacement. In the case of a critical illness claim, it’s possible the key person will return to work, so the funds can be used to pay for a temporary replacement or replace lost profits.
Alternatively, if, for example, the key person is a shareholding director, they can take out a plan on their own life and write it under trust. The potential beneficiaries of the trust would be the other shareholders. In the event of the key person suffering a critical illness or dying, the other shareholders will receive the proceeds of the plan from the trustees and can inject additional capital into the business if it’s needed.
Limited liability partnerships
A limited liability partnership is similar to a limited company in that it has a separate legal persona. Accordingly, it is possible for a limited liability partnership to take out a plan on the life of a key person in the same way as a limited company.
There are two different solutions for partnerships depending on whether the key person is a partner or an employee.
Partner – Where the key person is a partner, they can take out a plan on their own life and write it under trust for the benefit of the other partners in the firm. Usually, the other partners in the firm will enter into reciprocal arrangements. In the event of death or diagnosis of a critical illness of one of the partners, the proceeds of the plan can be paid to the remaining partners.
Employee – Partnerships in England, Wales and Northern Ireland aren’t separate legal entities. Accordingly, if the key person is an employee, the partnership cannot take out a plan on a life of another basis. In this situation, one of the partners can take out a plan on the life of the key person and write the plan under trust for the benefit of the partners in the firm. If the key person suffers a critical illness or dies, the partners can receive the plan proceeds from the trust.
Partnerships in Scotland are separate legal entities. This means that in Scotland if the key person is an employee, the partnership can take out a plan on a life of another basis.
A sole trader may need protection for both themselves and a key employee. The sole trader could take out a plan on their own life and to benefit their family. This will ensure that in the event of death, their family will have funds available to settle any business liabilities like, for example, a business loan. The split trust contains a carve-out provision so that in the event of the settlor of the trust (in this case the sole trader) surviving diagnosis of a critical illness by 30 days, the proceeds of the plan will be held for the settlor. In this case, the sole trader can then meet the financial responsibilities of the business.
Clearly, the sole trader will be a key person in the business. However, it is possible they may employ someone who is also key to the success of the business. In this situation, the sole trader can take out a plan on the life of that other key person so there are funds available to meet the financial responsibilities of the business in the event of the key person’s death or critical illness.
The loss of a partner, member or shareholder can have a major impact on the success of a business in terms of ensuring continued control for the remaining owners.
Individual purchase – Companies, Limited Liability Partnerships and Partnerships
Under an individual purchase arrangement, each business owner takes out a protection plan on their own life for the value of their share of the business. The plans are written under trusts for the benefit of the other co-shareholder, members or partners. In the event of the death or critical illness of one of the business owners, the others will receive the proceeds of the plan from the trust to enable them to fund the purchase of the shares of the deceased or critically ill business owner.
Alternatively, if there are only two or three owners it is possible for each owner to take out plans on each other’s lives so that in the event of one of the owners dying or suffering a critical illness, the proceeds of the plan will be payable to the surviving business owners.
In both cases it is recommended that a legal cross-option agreement is made between the business owners in order to regulate the sale and purchase of the share of the business. The cross option agreement provides that on death and/or critical illness, the deceased’s personal representatives have the option to sell the deceased business owner’s share of the business and the surviving business owners have the option to buy it. The cross-option agreement usually provides that the options must by exercised within 3 months of the date of death and/or critical illness and once either party to the agreement exercises an option, the agreement becomes binding on the other party.
For critical illness it is also possible for the agreement to give the person suffering a critical illness the option to sell immediately. The option for the other owners would deferred for a period, typically 12 months, and could only be exercised if the ill person does not return to work within that period.
Company share purchase
A sole trader may need protection for both themselves and a key employee. The sole trader could take out a plan on their own life and to benefit their family. This will ensure that in the event of death, their family will have funds available to settle any business liabilities like, for example, a business loan. Again, the split trust contains a carve-out provision so that in the event of the settlor of the trust (in this case the sole trader) surviving diagnosis of a critical illness by 30 days, the proceeds of the plan will be held for the settlor. In this case, the sole trader can then meet the financial responsibilities of the business.
Could your business survive the death of a partner where a surviving spouse looks to take control, or all outstanding finance is called in immediately?
Knowing the ins and outs of your business as we do, Prospero are perfectly placed to arrange Business Protection for you. To discuss this further, please get in touch with David on 0800 689 1370 or email firstname.lastname@example.org.