Death of a Shareholder – Shareholders’ Life Insurance Policies: Beware of the Legal Traps!

26th January 2024

Corporate Partner, Helen Mather discusses Shareholders’ life insurance policies.

A business can be adversely impacted by the loss of a shareholder and therefore shareholders of companies may consider taking out life insurance policies to protect the continuity of the business.

Types of shareholder life insurances and how it should work

There are two types of arrangements, life policies linked to cross options and keyman insurance.

Keyman insurance is taken out by the company in respect of a shareholder who is a key executive to ensure minimum business disruption in the event of the death of that key executive. Insurance proceeds are normally applied to find a replacement but can be used by the company to buy back the shares from the deceased shareholder’s estate, although this is more unusual due to the legal requirements relating to a buyback of shares by a company.

In terms of life policies linked to cross options, the policy is taken out by a shareholder and held on trust for the other shareholders, so that on the death of that shareholder, the continuing shareholders receive the insurance proceeds in order to buy the shares from the deceased shareholder’s estate. A cross option agreement would be put in place so that the estate of the deceased shareholder can require the continuing shareholders to buy the shares, and conversely the continuing shareholders can require the estate to sell the shares at the prescribed price.

The legal traps for the unwary

There are numerous pitfalls to be aware of when it comes to such arrangements including:

  • If there are no formal contractual arrangements in place, the person entitled to the shares on the death of the deceased shareholders, the beneficiary, (whether under will or due to the intestacy laws) would step into the shoes of the deceased shareholders. This may not help the business going forward if the continuing shareholders and the beneficiary have conflicting views or a lack of experience relating to how the business is to be conducted;
  • The policies are put in place but there are no cross options agreements. This means that the continuing shareholders will receive the proceeds but are not compelled to buy the shares from the deceased shareholder’s estate. Potentially the continuing shareholder could profit from this scenario by either not agreeing to buy the shares or trying to agree a lower price for the shares with the deceased shareholder’s estate. Likewise, the deceased shareholder’s estate would not be compelled to sell the shares;
  • Conflicts can arise between the shareholders and the deceased shareholder’s estate if the provisions dealing with share valuations are omitted from the agreements put in place or there are differences between the share valuation and the value of the insurance proceeds received;
  • The wording of the declaration of trust which enables the proceeds from the deceased shareholder’s life policy to be transferred to the continuing shareholders is often not adequate which results in the declaration of trust becoming invalid;
  • The wording of the cross option agreement is inadvertently termed in such a way as to lose the business property relief available on shares in relation to inheritance tax;
  • In the case of a company buyback of shares using the proceeds from the keyman insurance, not having the appropriate option agreement in place, not following the correct procedures in relation to a buyback of shares or despite receiving the insurance proceeds, the company not having sufficient distributable reserves to buyback the shares (which is a legal requirement).

How Kuits can help

Given the above, we would recommended any life insurance arrangements are reviewed to make sure the desired arrangements will be implemented as smoothly as possible and to avoid any further upset and obstacles in what will be an emotionally stressful time for all concerned.


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