Financial planning – the importance of Shareholder and Key Person cover

When financial planning for your business, there are two indispensable, non-negotiable pillars that frequently get overlooked: having adequate plans in place in case of a premature death or an earlier long-term illness of a shareholder or a key person.

As a business owner, you're well aware that losing a key team member or shareholder could spell disaster and hinder business continuity. That's why these financial safety nets should not be an afterthought; they should be at the core of your business planning. This article delves into the importance of these two financial safeguards and why they should be at the forefront of your business planning.

What is Shareholder protection?

Shareholder protection is a form of insurance that aims to minimise the interruption to the business in the event of death or long-term illness of a shareholder.

When a shareholder passes away, their shares in the business would usually be left to their family. This means that the family then become the shareholders and without adequate capital and plans in place, this could create ugly disputes between the shareholders and the family.

How does it work?

Typically arranged in Trust, a shareholder protection policy pays a lump sum that allows the remaining shareholders to acquire the shares from the ill shareholder or their family, thus, maintaining control of the business.

Consequences of lack of Shareholder protection

Without this type of policy, the family could:

• Be entitled to remuneration from the business even though they are not working in the business.
• Get involved with day to day running of the business despite not having sufficient expertise.
• Sell their shares to someone who does not share the same values or the vision for the business as the current shareholders or even to a competitor.

All of which is likely to impact the business in a negative way.

A shareholder protection is also helpful in supporting the family members. The cash payment (in exchange for the shares within a business) often relieves financial stress that families face when a key breadwinner dies.

What is Key Person cover?

A key person is usually someone whose skills, knowledge, reputation or leadership are crucial to company’s operational and financial success. Losing a vital team member to premature death or long-term illness is likely to result in financial burden for the business as they are often difficult and expensive to replace.

How does it work?

Like Shareholder protection, Key Person cover is an insurance policy designed to mitigate the risk of losing a key person. The claim can be instrumental in allowing trading to continue with minimal disruptions. Typically, this lump sum is used in two main ways:

1. To offset the loss of profits that may result from the absence of the key person, and/or
2. To fund the recruitment and training costs for a suitable replacement.

How is it taxed?

When it comes to the tax implications of Key Person cover, these are case dependent. Generally speaking, if the premiums are an allowable expense then a successful payout is likely to be taxable and if the premiums are not an allowable expense, then claims are likely to be tax free.

How can we help?

Understanding the intricate details of both Shareholder protection and Key Person cover can be overwhelming, especially when you're already juggling the numerous responsibilities that come with running a business. That's where we come in. Our team of experts can provide tailored advice to help you select the policies that are most appropriate for your business, ensuring that you're adequately protected against unforeseen circumstances.

If you would like to have a confidential conversation, please get in touch with our Chartered Financial Planner, Görkem Barron (gorkembarron@lfwm.co.uk) or Director, Andrew Tricker (andrewtricker@lfwm.co.uk)