Financial expert: Unexpected shareholder death can have serious consequences for firms and families

An untimely death of a senior management figure is not only personally distressing, but can also have serious financial and operational consequences for a firm and families, a financial expert has warned.

Co-founder of Orca Financial, John Molloy said corporate co-directors insurance was an "essential form of cover to address challenges that both a company and next of kin may face in such an event".

Although not widely understood, corporate co-director insurance is an arrangement between a private company and one or more of its shareholding directors to allow the company buy back the shareholder’s stake in the company from his or her benefactors on death, Mr Mallow said.

This cover addresses potential difficulties in advance, such as whether or not the remaining company shareholders would be able to raise the required capital, or if the next of kin refused to sell, he added.

Without some form of co-director insurance, the deceased’s shares in the company would normally become part of their estate, passing to a new shareowner, usually a spouse or the deceased’s children. The new shareowner may not have any experience of the business, or may wish to move the company in a new or unwelcome direction, according to Mr Molloy.

If the deceased shareholder owned more than 50% of the company, their next of kin may automatically become the new majority shareholder, taking control of the company or selling the shareholding to an external party.

Remaining shareholders could have limited control over such decisions, and, from the next of kin’s perspective, having to deal with an untimely death and its financial implications is also challenging”, said Mr Molloy.

Selling company shares can create potential difficulties for the next of kin, said Mr Molloy.

The company’s articles of association may give the other shareholders the right to block the sale of shares to an outside party, he said.

Without a way to sell the shares on the open market at their true value, the deceased’s next of kin could be forced into a “fire sale” to the other shareholders, at a lower price than the current market value.

There can also be cash-flow difficulties, especially as the deceased’s salary will have stopped. Depending on the family’s financial reserves or personal life policies, shares may need to be sold to provide an income. Otherwise, next of kin can be left holding a “paper asset”, particularly if they now own a minority holding in a company producing little or no income, added Mr Molloy.

The cash-flow problem could be exacerbated if the shares inherited also give rise to an immediate inheritance tax liability, he said.

The option of co-director insurance was a solution to limit the financial pressures and uncertainty faced by both surviving directors and next of kin, Mr Molloy said.

A legally binding agreement between the company and its shareholders is drawn up, and one or more life cover insurance policies, owned by the company, are put in place, he said, ensuring the company has the required funds available to purchase the shares from the deceased’s estate within a specified period after their death.

As well as allowing continuation of the company’s operations with minimum disruption, this also ensures that the deceased’s next of kin will, within a specified period, receive the value of the deceased’s shareholding, Mr Molloy said.