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Succession issues for family owned companies

At some stage the age of the directors and shareholders of the family will inevitably dictate that there needs to be a change in the shareholdings and management of a family company.


Sometimes in the absence of planning, this occurs on the death of a significant shareholder.  This may not be problematical in taxation terms (see the section on inheritance tax below), but in the absence of proper planning, management succession issues can be problematical.

In many cases the ideal situation is for younger members of the family to have taken up management positions and to continue to manage the business for the benefit of the family shareholders.  However, difficulties can arise if some or all of the family members do not wish to get involved in the business and many businesses survive and prosper better if the shareholders and management are aligned.

In some cases there is senior management in place which has sufficient motivation and ability to continue to run the business on behalf of family shareholders.  Equally there have been instances where a founder shareholder/director has no longer been sufficiently engaged or capable and therefore has not been able to supply the direction, drive and foresight to keep the business on the correct path.

In the event of a management team being groomed to manage the business on behalf of the family, consideration should be given to appointing an effective non-executive director (or directors) particularly in the case of a sizeable business who can have input at board level to represent the interests of the family shareholders.

Irrespective of tax and succession planning, it is almost irresponsible not to have some sort of management succession planning in place.  The share structure of a limited company does, however, offer a number of possibilities.  The simplest are transfers either by way of gift or sale to family members.  Significant shareholders may prefer to contemplate a sale either at a discount or full value to family members who are involved in the business so as to give them the ability to make other provisions for family members who are not involved. 

In the case of gifts to individual family members, there is likely to be a capital gains tax liability for the donor.  If the gift is a minority interest in the company, it should be possible to agree subsequently with HM Revenue & Customs a significant discount.  In addition, entrepreneur's relief may be available so as to reduce the effective rate of tax to 10%.

An alternative might involve a gift to a discretionary trust in which case the capital gains tax liability may be deferred by the donor and the trustees completing a joint election.

Inheritance tax may be another issue, although if the company conducts a trading business, business property relief ("BPR") should be available to reduce the rate to nil.

Sometimes the use of different classes of share, whether voting or non-voting, or perhaps the creation of preference shares (with a prior entitlement to a fixed dividend before declaration of a dividend on the ordinary shares) can be a means of dealing with the competing claims of family members who are involved in management with those who are not.

If there is no obvious management succession, this tends to point to an exit by way of trade sale.  In this case, consideration may be given to share dispositions in advance of any exit so as to mitigate the additional inheritance tax implications that arise as a result of holding cash and other investments rather than shareholdings in family companies which may attract BPR for inheritance tax purposes.

Where there are sales to third parties or sales perhaps to a senior management team, often the question of deferred consideration comes into play. 

Deferred consideration may come in the form of a contractual right to further payments, or various forms of loan notes or in some cases a new shareholding in the "buy out" vehicle which acquires the shares of the family company.  The danger with some structures which involve deferred consideration is the loss of entrepreneur's relief in relation to the deferred part of the consideration.  The loss of this relief can have a significant impact and therefore advice on the correct structure is essential at an early stage of the proposed sale process.

Sometimes philanthropic shareholders (or perhaps shareholders with no obvious heirs) may wish to consider disposing of a substantial proportion of their shareholding for the benefit of the workforce, in which case there can be a significant reduction or elimination of capital gains tax if the shareholding is transferred to a properly constituted employee ownership trust. 

All these issues and potential future plans and structures should be discussed, understood and agreed and then implemented at the right time. 

For further help or advice, please contact Director Jonathan Oxley

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