When a company shareholder dies, ownership of his or her shares may be transferred to whomever inherits them under the terms of the deceased shareholder’s will, if one is in place, or under the intestacy rules. However, this will be subject to provisions in the company’s articles of association and shareholders’ agreement (if one exists), which take precedence and may include restrictions on the transfer of shares.
Dealing with such complex matters during times of grief is often very difficult and distressing, so it is important to plan ahead to ensure the correct procedures are in place.
Preparing a will and including clear provisions in the company’s articles and shareholders’ agreement is the best way to minimise stress and potential disputes that may arise upon the death of a shareholder. This strategy will provide certainty and structure for family members, shareholders, and the company at a time when it is needed most.
Transmission of shares under the model articles of association
Under the default model articles, which many companies have, beneficiaries of shares inherited under a will or intestacy rules are recognised as having titles to those shares. However, they do not have the right to attend or vote at general meetings or agree to proposed written resolutions unless they write to the company requesting to become the registered holders of the inherited shares.
The transmittee (the person who inherits the shares) may make a written request to the company to have someone else registered as the holder of the inherited shares and execute an instrument of transfer in respect of it, but this can be a complex and time-consuming process that often creates uncertainty for everyone involved.
To avoid such difficulties, it is best to alter the model articles or create bespoke articles to incorporate specific provisions regulating the transfer of shares. It is also sensible for companies with two or more shareholders to draw up a private shareholders’ agreement that sets out clear and precise share transfer rules and procedures. Furthermore, the terms of shareholders’ wills in respect of their shares should be consistent with the provisions set out in the articles and shareholders’ agreement.
Lack of planning for such eventualities could result in family members being burdened with business decisions and responsibilities beyond their understanding. Surviving shareholders and directors in the company may also feel frustrated or resentful having to deal with beneficiaries whose lack of business knowledge and/or visions for the company could negatively impact the future of the business.
Companies that do not use the model articles may have specific provisions in place to deal with the death of a shareholder. It is important that these provisions are fully understood and dealt with accordingly.
Provisions in the articles and shareholders’ agreement for dealing with the death of a shareholder
To minimise distress and disruption following the death of a shareholder, there are a number of specific provisions that companies can include in their articles of association and a shareholders’ agreement, including permitted transfers, a compulsory offer, pre-emption rights, a compulsory transfer, and cross-option agreements.
1. Permitted transfers
The provision of permitted transfers of shares is a tax-efficient strategy that allows the deceased’s shares to be transferred to a restricted group of individuals, such as family members or family trusts, without the need to enforce the requirements of pre-emption rights.
2. Compulsory offer
Upon the death of a shareholder, a compulsory offer provision requires that the shares of the deceased are offered to the remaining members. If they decline the offer, the shares may be made available to third party purchasers, such as beneficiaries named in the will or individuals of the company’s choosing.
3. Pre-emption rights
Pre-emption rights is a common provision that gives the remaining shareholders the right of first refusal over new shares issued by the company or existing shares that become available for transfer. This is an effective way to protect the interests of the remaining members, enabling them to maintain their proportion of ownership and control. If the shareholders decline to buy the available shares, they can be offered to third party purchasers, including family members of the deceased.
4. Compulsory transfer provision
A compulsory transfer provision requires shareholders to sell their shares in certain situations, such as retirement, cessation of employment with the company, bankruptcy, incapacitation, or death. This provision allows the company to buy back the shares, sell to existing members or third parties, and protect the interests of the business.
5. Cross-option agreement
To ensure control of the company remains with the surviving members, a cross-option agreement entitles shareholders to grant options to each other in the event of one of their deaths. Under this type of agreement, the existing shareholders can either ‘force’ the personal representatives of the deceased to sell the available shares to them, or the personal representatives of the deceased can ‘force’ the remaining shareholders to purchase the available shares.
To support this type of agreement and avoid causing financial difficulty to the surviving members, it is commonplace for each shareholder to arrange a life assurance policy that reflects the value of their shares and is held in trust for the other shareholders. In the event of death, the policy will pay out and provide sufficient funds to the remaining members, facilitating the purchase of the available shares. The proceeds of the sale will then be transferred to the beneficiary of the deceased shareholder.
Death of the sole shareholder and director in a one-person company
A number of practical issues can arise if the sole shareholder and director of a company dies. This is because the deceased may be the only person authorised to exercise certain powers, such as the appointment of new directors, transferring shares, and paying employees, suppliers, and other creditors.
In one-person companies, it is crucial to include express provision in the articles to ensure that the company is able to carry on business with minimal disruption and delay. Examples of appropriate provisions would be permitting the executor to vote on behalf of the deceased shareholder, thus enabling the executor to appoint a new director; or allowing the personal representatives to appoint a new director without the need to first be registered as a shareholder.
The model articles of association under the Companies Act 2006 includes a default provision to address this issue, which states:
“In any case where, as a result of death, the company has no shareholders and no directors, the personal representatives of the last shareholder to have died have the right, by notice in writing, to appoint a person to be a director.”
However, no such automatic right is included in Table A articles, which are still used by some older companies incorporated under the Companies Act 1985.
If no specific provisions addressing this issue are included in a company’s articles, executors and beneficiaries will not be formally recognised as shareholders, nor will they be permitted to excise any director’s powers unless they make a court application requesting rectification of the company’s register of members.