A legal framework for succession

This week, Natalie is joined by Andrea Jones to discuss the legal framework that business owners and leaders should consider as ‘must haves’ to ensure that the long-term succession, control, decision making, and ownership of the business are aligned with the intentions of the family.

Show Notes

In the 3rd episode of season 2, Natalie is joined by Andrea Jones, a Partner in the Private Business Wealth Team at Irwin Mitchell. Both discuss the legal framework that business owners and leaders should consider as ‘must haves' to ensure that the long-term succession, control, decision making, and ownership of the business are aligned with the intentions of the family, be that current or future generations. This includes shareholders' agreements, Wills, gifting, pre and post-nuptial agreements, lasting Powers of Attorney, and trusts.

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Natalie Wright: You are listening to the Exploring Family Business Podcast, brought to you by Mazars. I'm your host Natalie Wright, head of family business at Mazars UK. And having worked extensively with family businesses for a number of years, I'm keen to support this valuable sector of our society. At Mazars, we believe there is nothing more personal than a family business. Every family and every business are unique. So we look forward to sharing knowledge, insights and practical tips for those navigating the unique issues that arise from being in business with family. Now, on with this week's show.

Hello, and welcome to the third episode of season two's Exploring Family Business Podcast with Mazars. My guest this week is Andrea Jones, a partner in the business wealth team at Irwin Mitchell. Irwin Mitchell are a national firm of solicitors and have a number of family business advisors across the UK.They support clients throughout their journey, ensuring they take the practical steps necessary to legally protect their family legacy.

Andrea, can you explain more about your role and how you work with families who are in business together?

Andrea Jones: Yes, of course. Hi, Natalie. I'm a tax, trust and estate solicitor and I work closely with my corporate litigation and family colleagues to advise business families on wealth protection and succession planning. We advise all generations of business families to help them put the appropriate planning in place, to ensure that the business and personal assets are protected and that the business can continue smoothly on the death or incapacity of any of the directors or shareholders. I'm also a TEP, which is a Trust and Estate Practitioner and I'm chair of STEP Yorkshire. STEP, which is the Society of Trust and Estate Practitioners, is a global professional body comprising lawyers, accountants, trustees and other practitioners that help families plan for their futures.

Natalie Wright: Thanks for that, Andrea. So as you're aware, in episode one and two, we've really covered the planning points around preparing the business and the family for succession. So in episode one, largely looking at the organizational requirements, skills, continuity planning and then, moving on to the more personal and emotive side for the individual family members.

But today, I wanted to explore more the practical planning and legal considerations that need to be factored into a succession plan, which is clearly where you come in. I know there will be lots of dimensions to this and we can't cover everything today. However, having seen succession plans fail, or lead to disputes and ill feelings amongst families, I thought it would be really useful for us to discuss some of the basics which you would consider the must-haves to make sure that that legal planning matches up with the actual intentions of the family, and be that current or future generations.

Just to summarize, today we'll touch on quite a number of points, actually. Shareholders agreements, wills, gifting, pre and post nuptial agreements, lasting powers of attorney and trust. I know that is a lot to get through, and we can't give all of those the attention they deserve, but we can cover some of the salient points and I think that will be useful, if that's all right with you?

Andrea Jones: Yeah, that's fine. I'll try and keep to the key points and provide some practical takeaways. I can always follow-up with any specific questions from listeners.

Natalie Wright: Thanks, Andrea. I'll make sure that we'll leave your contact details in the show notes, too.

So I'm sure you've experienced this, and actually Russ Haworth and I discussed this in quite a bit of depth last week. And that was that the main source of conflict or confusion that tends to arise in any family business comes down to poor communication. But leading on from that, it can also at times lead to poor governance. So if we stick to the point of governance, part of the family rule book, I guess, it's reported that only around 50% of family businesses in the UK have a shareholders' agreement in place. Do you want to explain the purpose of a shareholders' agreement and what it can cover? Or, what it actually doesn't cover, with the latter point being more important in some cases?

Andrea Jones: Yeah. So a shareholders' agreement is an agreement between the shareholders of a company. And its purpose is to protect the shareholders' investment in the company, to establish a fair relationship between those shareholders and govern how the company is run. So it's really important that it's aligned with the company articles and any cross-option arrangements. It can create a structure and have clear guidelines for current and future shareholders or directors. It sets out the shareholders' rights and obligations, regulates the sale of shares in a company, describes how the company's going to be run, can provide an element of protection for minority shareholders and defines how important decisions are to be made. It can also cover dividend policies and how different people will be paid, so it's quite a lot it can cover.

In terms of ownership details, it can also deal with who can and should own shares, both now and in the future. It can cover details about how the business should be valued, in the event that any shares are sold in the future, or in the event of any disputes. And it can set out if shares can be transferred or gifted, and on what terms. It's really important, I think, that the shareholders' agreements are updated and they're regularly reviewed, so they're updated on any reorganization of the business, on any acquisition of any other businesses, on the exit of any other shareholders. And it's also important that they're read alongside the shareholders' wills, to ensure that both sets of documents marry up.

It can include specific provisions as to what happens on the death of a shareholder, where it is really important that that marries up with the articles of association and with the will.

Natalie Wright: Really, lots of points there, and it evidences the importance of that document, I think. I've been in discussions with clients before, particularly when we're introduced to working with a new family business and we'll discuss a shareholders' agreement and it's assumed, "Well, this is what will happen in the event something happens to an individual member of the family and a shareholder," and clearly all those points need lots of consideration and can have a big impact.

I guess, the key message that I took away from it Andrea, was that it's important not only to discuss it, to create that communication around it and agree on a strategy, but also write it down and then keep reviewing it, because the business will change, the ownership could change so it's really important you do keep reviewing it. So adding it to the agenda at each family director board meeting is a must, and then also make sure that you validate this with your lawyer, your accountant, that's obviously going to be important.

But let's move onto one of life's certainties then, and you mentioned it there. It's something that we all need to plan for, although we don't always like to discuss it, and that's the point of death. It is one subject that we see family members not always wanting to openly discuss, and that lack of communication sees issues arise when it comes to understanding what will happen to the business versus what will happen with personal assets and well. Can you talk us through that process and considerations, of implementing a will for an individual who has these different aspects to consider?

Andrea Jones: When thinking about a will, what individuals need to think about is who do they want to appoint as their executors and trustees, I think that's a starting point. Executors are separate to trustees, although you can appoint the same people to act as both. The executors will be the people responsible for administering that individual's estate on death, so dealing with the inheritance tax position, dealing with the transfer of assets to any trust or to the beneficiaries directly if there's no trust.

And then, the trustee's role is slightly different. The trustees will then be responsible for administering any trusts under the will, and that will be a more long term role. So it's really important that the trustees understand what the roles are, and understand the reason for transferring business assets into trust, if that's what the business owner has done. They could also consider whether professionals might be appropriate to act. Do those people understand the business? Do they understand how the business should be run after death? What share of the business has fallen into that trust, and how does that impact on the running of the business? So it's really important that a letter of wishes have been drafted, to sit alongside the will, to provide guidance to those trustees as to how that trust should be managed in conjunction with the running of the business.

The other thing that they could think about is whether any of the business assets would qualify for any inheritance tax relief, the most important there being business property relief. And quite often, we advise that any business assets qualifying for that relief should fall into a trust to maximize the relief very briefly, and also qualify the shares must be shares in a trading business and must have been held by the deceased for a period of at least two years. That's broadly speaking.

There's other reasons why you would think about a will, release or dictate what happens to those assets under rather than leaving it to the rules of intestacy. I think it's a bit of a myth that some people think that because you have what we call the old-fashioned common law spouse, may not be married but may be living like a married couple, and there's sometimes an assumption that assets will transfer automatically to the survivor under intestacy rules, which is absolutely not right at all. Under the intestacy rules, unmarried couples don't benefit at all, and even married couples would only benefit the first 270,000 personal possessions, and then half of the remainder if there's children. It's different if there's no children, it would go to all of the spouses. But, that's quite a big concern really, and one of the main reasons why business owners should make a will.

There's also other things to think about. As I said before, looking at the will in conjunction with the shareholders' agreement, making sure they don't conflict. Ensuring that any family charter has been written alongside the will, taking into account any cross-options, making sure any trust or insurance policies have been drawn up to sit alongside that. Making consideration of any disputes that might be potential on death, which I always talk about the wider family, thinking about worst case scenario, is there anyone in that wider family that could cause issues further on down the line and whether we can do anything to avoid that. Or, at least to mitigate it. So there's quite a lot, I could go on for a long time as to why you need a will.

Natalie Wright:: Again, I guess you've just demonstrated there the importance of the documents. Your will needs to cover a number of points, it also needs to marry up with the shareholders' agreement. This can be quite complex planning so you need to take advice on it, you need to make sure that the two aren't conflicting.

So I can imagine there's lots of people who will assume, " Well, if it's in the will, this is what will happen." Whereas the reality is that it may conflict with the agreements made at a business level, and that could lead to conflict. Not just at a family level, but also a management level. And if it's not clear who will own and run the business, then how do you communicate that to your employees, your customers and other stakeholders?

Andrea Jones: That's one of the reasons, again, why it's so important that the will is written alongside any of the company documents. In that situation, you'd have to look at the will in detail, you'd have to look at the company documents in detail. If there is a conflict, or if somebody does inherit the shares that outside the business and has no idea about the business, what you could then do is look at whether there's any ability for the business to buy those individuals out and try and come to an agreement.

The best way to do it, in terms of planning, would be to incorporate something within the shareholders' agreement that would deal with either some compulsory transfer provisions rights of preemption, meaning that the deceased's shares must be offered to the remaining shareholders in the company before anyone, or a cross-option agreement if you've only got a couple of shareholders. So that there are mechanism you can include in the shareholders' agreement to allow that, and to allow for the shares to remain within the business or within the people that are running the business.

As I said, if that isn't there, then you've got to look at any other ways that you can come to an agreement and it can be difficult. I have been involved in disputes of this nature, and in those situations if there's not enough money in the business, it can be difficult to raise the funds to pay those individuals out. So again, another reason why all of this needs to be looked at in advance, really.

Natalie Wright: And moving on from death then, to the more brighter subject of capacity. Do you want to talk to us about that, because again, I think this is something that can often get lost in translation. "Well, if I've got a will that says what will happen," but actually, what if something happens before you get to that point?

Andrea Jones: Yeah, absolutely. It's not just death that you need to plan for, as you said. Whenever I'm advising clients on wills I also say you need to think about lasting powers of attorney, and lasting powers of attorney are really a bit like an insurance policy, really, in case the business owners lose their capacity to be able to make decisions about the running of the business. And in fact, their own personal finances. There are two types of lasting power of attorney you can make, one for finances and one for health. Which are very different, and you would probably think about completely different people to be appointed for each of them. Sometimes, you have the same people.

But, in terms of the financial power of attorney, what I would recommend is that business owners think about first of all, whether there is any provision in the shareholders' agreement or articles of association to say what would happen if a director or shareholder lost capacity. If there isn't any provision in there, then it's really important that they think about making a lasting power of attorney for the business assets. They can also then think about a separate power of attorney for their personal assets, if it's the case that different people would be managing those different funds.

Lasting powers of attorney aren't just for people who are beginning to lose capacity. Another myth is that it's only for people who are in old age or vulnerable people. But actually, as I said, it's an insurance policy for everyone. It provides protection and reassurance that if a business owner does lose capacity to be able to manage that business and their personal finances, that there will be somebody appointed to be able to continue that. And again, you can have individuals, or you could have a professional, you could have a trust corporation where you have a group of directors able to make those decisions, so there's lots of ways of doing it.

But again, I said it is important and it's important to get collaborative advice in that respect, from a private client lawyer and a corporate lawyer as well, to ensure that those documents marry up with the company documents.

Natalie Wright: Absolutely agree, and I do find that this is one area that's often overlooked. Personally, I can attest to how important having lasting powers of attorney have been for a couple of clients over the last year. And unfortunately, I've had two clients who've had to use them, both for different reasons, but I guess fortunately they were in place. And interestingly, neither client had lost mental capacity so it wasn't, as you mentioned there, the things that people typically associate lasting powers of attorney with. In each case it was different.

But one was overseas when the pandemic hit in April last year, and due to caring for an older family member, he was actually out of the UK for several months. And then, another client was in hospital for some time having contracted COVID, and he has now made a full recovery but he wasn't able to physically or mentally make the decisions, and to write out the checks, sign the documents, those sorts of things in terms of running the business. He needed someone to step in and do that for him.

If I could come back to a point that you mentioned at the start, about gifting and transferring ownership of shares, because that can be covered in the shareholders' agreement. I guess, the reality is that this can provide some level of protection, both from a financial and decision making perspective. But, what happens if shares are gifted to someone who then goes on to get divorced? Let's say the behavior goes a bit off the rails, the young, potentially vulnerable, they end up in debt, any of those kind of scenarios that we don't really want to think about, and it's actually really hard to plan for. They're not certainties, but they could happen.

Andrea Jones: Yeah, so I think there's two different aspects here. There's the divorce point, and also the protection from vulnerable beneficiaries.

In terms of the divorce point, when I'm advising on gifting, I would also advise that clients take advice from a family lawyer, to think about pre or post nuptial agreements. I know it's not the most romantic of topics, but we always say, "Blame the lawyer." So before making that gift, it's really important that, say for example it's the parent gifting to the children, that the parent says to the children, "If you want this gift, if you want to benefit from the business, I really want you to take family advice and to enter into or consider a pre or post nuptial agreement with your other half before we transfer those assets." It's so important that they get that advice and they put the pre or post nuptial agreement in place before the gift takes place.

Unfortunately, I've had clients who've called me and said, "I've made this gift. I'm not sure about my in-law. What can I do now?" You know, that's quite difficult then, really, to have that conversation later on, because it's unlikely that the child will feel that they can raise that with their other half. But, at least if there is the incentive that they will benefit from the business if they do this pre or post nuptial agreement.

Natalie Wright: Would their post-nup give you a similar kind of protection as a pre-nup, then? I'm guessing that's one of the questions that comes up. Are they valid, are they legally binding, that kind of thing.

Andrea Jones: Yeah. I mean, they're not legally binding but they are more and more recognized in this country. I think it's much better to have that document in place, to then show a judge in a family law situation, "These were our intentions. We'd already agreed this and we've got a signed document to confirm that's what we had agreed." Not in anticipation of divorce because you don't want to anticipate that before you get married, but at least that's something that's already been considered. Whereas if you don't have it, you've got nothing to reference, so I think it is important.

Natalie Wright: I'm guessing both sides as well would need that professional advice. It can't be a case of, "Well we're advising you, client, on gifting these shares, arrange for a pre or post nup," and just get the other person to sign it.

Andrea Jones: No. Yeah, definitely. They'd have to have separate representation as well. It is involved, but I think, as I said, clients have just got to blame the lawyers and use the gifting as an incentive to their children, to try to entice them to do it really.

On the other point around debt and bank property, and erratic behavior, what you could do in that situation is protect the business and family by transferring the shares into trust rather than gifting them directly to a beneficiary.

In terms of trusts, it can be sometimes a bit scary to think about a trust but they are such a brilliant wrapper to protect assets for families. They provide lots of flexibility, you can put lots of provisions in there. To make loans out of the trust, they can be really tax efficient. Most of the time, there is a tax implication, but once you've got your head around what the tax situation is, it's normally quite minimal compared to the protection that it offers. And it can be used, for example, for providing an income to grandchildren. So if the grandchildren are going to private school, you could use it to pay for private school fees, or if there was any other reason that you would want to maintain grandchildren. The capital could then be preserved for the beneficiaries or for the grandchildren for their future. It's really a good way of protecting the assets.

It's also protective, because it's in a protective wrapper, it won't actually be classed as the beneficiary's asset personally. So if that beneficiary went bankrupt or divorced, it wouldn't be part of their estate for that purpose. But, they are really useful.

Natalie Wright: And again, trusts could be used during lifetime to make gifts, but also in the event of death as well so it could have two different purposes.

Andrea Jones: Yeah. Yeah, definitely. Yeah.

Natalie Wright: I guess one of the other things is making sure that those trustees are the right people where the business assets are involved, and also understanding the family dynamics and what your intentions. I guess that is a really important aspect that you go through with clients.

Andrea Jones: Yeah, definitely. And again, I'd recommend that letters of wishes are drafted to sit alongside those trusts, to explain why a business owner has set up that trust, why they transferred business assets into that trust. And, it might be that the business owner stays on as trustee during their lifetime, but working alongside a professional. But, it just means that if that business owner does die or lose capacity, they've provided the guidance as to how that trust should be managed going forward.

Natalie Wright: Thanks for that, Andrea. And final question, it's a bit more of an insight, really. Is there any particular planning points that you've seen family business clients addressing more actively over the last year?

Andrea Jones: I think COVID has made a lot of people, including business owners, really reassess their situations and whether they want to continue, perhaps they might want to retire a bit earlier. Their business may have gone from strength to strength over the last year, so we have seen an increase in business owners wanting to plan their exit, particularly if they have the next generation in place. My advice would be to plan ahead, because the more time you have to plan your exit the better, really. It's likely you can structure things in a more efficient way, from a tax perspective.

I've seen an increase in the use of trusts. Entrepreneurs relief for a quarter to one million pounds, which means many individuals are in excess of this and therefore trusts are a really useful way to benefit from long term asset protection, preserve business relief and potentially provide tax efficient income streams for the next generation and beyond.

There's also, I think, family investment companies are still valid as well. So perhaps where trusts might not be as tax efficient, if you're talking about larger sums of money, over two million pounds, then family investment companies are a really good way of passing those assets down to the next generation, particularly if the family decide not to continue the business and to liquidate the business, and transfer it more into investments.

Natalie Wright: I'd agree with all three of those points, actually. We've certainly noticed an increase in business owners reassessing what they want and where they think the future lies. Increase of trusts, largely driven by tax as well and the family investment company side of it. Yeah, we have seen a big increase.

Thank you so much, Andrea. It's been a really interesting session. I know we have covered a lot at a really high level, but the aim was really to give the listener some key takeaways because succession planning is a complex and ongoing process. For me, I guess it's just reemphasizing the importance of having that joined up approach when it comes to implementing and then monitoring the plan. And having that holistic view, rather than just undertaking planning in isolation, because it will no doubt create costly and quite unnecessary issues for both the family and the business. So thank you very much, I'll make sure that all your details are in the show notes.

And that brings the third episode of the Exploring Family Business Podcast, season two to a close. If you enjoyed today's show, please subscribe to the series and leave a review on iTunes. It will help us to extend our reach to the family business community. Join me next week when I'll be speaking with Zoe Peck, a partner in the Mazars tax team based in London. Zoe specializes in advising family business owners on strategies to meet the needs of different generations, safeguard their family wealth and minimize tax. I look forward to sharing more with you then. But for now, thank you for listening.

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