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Overview:

Business Succession Agreements

 

Types of Agreement:

Types of Agreement

Cross Ownership:

Cross Ownership

Self Ownership:

Self Ownership

Related Party Vendors

Deemed Dividends

Risks If No Agreement

Trust Ownership:

Trust Ownership

Tax Implications

"Business Family Will"

Changing Needs

Benefits

Choice of Trustee

Super Buy/Sell

 

Drafting Issues:

Put Options

Call Options

Put and Call Options

Conditions Precedent

Put and Call Options vs. Conditions Precedent

 

Other Issues:

Pre-Agreed Purchase Price

Inadequate Insurance Proceeds

Trauma Buy/Sell Strategy

Simultaneous Deaths

 

Debt Reduction Agreement:

Debt Reduction Agreement

 

 

 

 

Choice of Trustee

 

Choice of Trustee

The Business has a choice of Trust Agreement based on whether all of the Policies are owned by:

 

Role of Trustee

One Page, One Policy Succession Plan

The One Policy Strategy requires the Policy Owner to hold each Policy on the terms of a Trust Agreement that requires pre-agreed amounts to be paid to pre-agreed Recipients.

One purpose of the Trustee is to ensure that the different components of the Insurance Proceeds are distributed to the intended Recipients with minimal risk of delay or default.

The Trustee is usually the Business itself or one of the entities within the Business Structure or Group (preferably a company).

Under the Trust Structure, the Business does not hold the Policy or the Insurance Proceeds for its own benefit.

The Insurance Proceeds are not available to a creditor of the Business, while it holds them in its capacity as the Policy Owner or Trustee.

Instead, the Business holds the Insurance Proceeds on the trusts set out in the Trust Agreement and must distribute preagreed amounts to the Recipients nominated in the Agreement.

One Page, Two Policy Succession Plan

If the Business chooses a One Page, Two Policy Succession Plan, the above analysis will apply equally to any Policies held by a Policy Owner as a Trustee on the terms of the trust set out in the Trust Agreement.

Insolvency of Business or Trustee

In the unlikely event that the Business became insolvent, the parties may direct the Business or Trustee to transfer the Policies to a substitute Trustee, if they wish their Succession Plan to continue.

If the parties wish to terminate their business relationship altogether, they may direct the Trustee to transfer the Policies to the relevant Lives Insured.

Once the Lives Insured owned their own Policies, they could change the Sums Insured to meet their new needs.

In each case, there are no adverse Capital Gains Tax implications with respect to the transfer, because the Life Insured is and continues to be the "original beneficial owner" of their own Policy.

 

Company

If the Business is a single Company, it will normally be recommended that the Company itself be the Trustee and Policy Owner.

If the Business Structure or Group consists of a number of Companies or other entities (such as Trusts), it will normally be recommended that one of the Companies be the Trustee and Policy Owner.

If one of the Companies in the Group is intended to hold Business Assets securely away from any risk of exposure to creditors, it might also be an appropriate Trustee and Policy Owner.

However, this is not strictly necessary, because the Trustee will hold the Policies on the terms of the Insurance Trust anyway.

 

Unit Trust

If the Business consists of a Unit Trust, then it will normally be recommended that the Trustee of the Unit Trust be the Trustee and Policy Owner.

The Trustee will hold the Policies on the terms of the Business Insurance Trust Agreement (not the terms of the Unit Trust).

 

Discretionary (or Family) Trust

If the Business consists of a Discretionary (or Family) Trust, then it will normally be recommended that the Trustee of the Discretionary Trust be the Trustee and Policy Owner.

The Trustee will hold the Policies on the terms of the Business Insurance Trust Agreement (not the terms of the Discretionary Trust).

 

Partnership

If the Business consists of a Partnership, it will normally be recommended that the Partnership be the Trustee and Policy Owner.

If the Business Structure or Group also includes a Unit Trust (e.g., a Service Trust), then it will normally be recommended that the Trustee of the Unit Trust be the Trustee and Policy Owner.

 

Pre-existing Bank Account

It is expected that the Trustee will have a pre-existing bank account that it can deposit the Insurance Proceeds into and distribute them from at the time of a claim.

It is preferable that it not be necessary for the Life Insured to sign a cheque on the account (whether jointly or solely).

In other words, it will be necessary for other signatories to be able to sign any cheques after a claim (when the Life Insured would be either deceased or disabled).

 

Security Implications

Under the Trust Structure, the Business does not hold the Policy or the Insurance Proceeds for its own benefit.

The Insurance Proceeds are not available to a creditor of the Business, while it holds them in its capacity as the Policy Owner or Trustee.

Instead, the Business holds the Insurance Proceeds on the trusts set out in the Trust Agreement and must distribute preagreed amounts to the Recipients nominated in the Agreement.

The Trust Agreement is effectively a list of directions by the Beneficial Owner of the Policy to the Trustee to pay fixed amounts to Nominated Recipients.

There is no discretion in the Trustee to change the amounts of the payments or the identity of the Recipients of the Insurance Proceeds.

The Trustee has a contractual obligation to make these payments as well as a fiduciary duty to pay them on behalf of the Beneficiary.

If there was a default by the Trustee, the Beneficiary (usually the Life Insured or their Estate) would be entitled to seek enforcement of the Trustee’s contractual and fiduciary obligations by a mandatory injunction.

Pending payment of the Pre-agreed Sale Price to the Vendors, the Purchasers would not be able to obtain a transfer of any Equity in the Business that was supposed to be paid to them.

There are also Powers of Attorney that allow an Aggrieved Party to remedy a breach as the Attorney of the Defaulting Party.

There is a mutuality of promises that would minimise the risk of default.

Ultimately, the Trust Structure still provides greater security than the traditional alternatives of Self-Ownership and Cross-Ownership.

It is still the most appropriate vehicle for a One Page, One Policy Succession Plan.

 

One Page, Two Policy Succession Plan

In some cases, the Business might wish to obtain the benefit of a "One Page Succession Plan".

However, the Lives Insured may require some of the Buy/Sell or Personal Cover to be owned by a Public Offer Super Fund, where considered appropriate by the Adviser and Business.

Alternatively, they might require the Buy/Sell or Personal Cover to be owned by a Related Party of each Life Insured and the Debt Reduction or Personal Cover to be owned by the Business.

In these cases, the Hybrid Insurance Trust Agreement can be used to document a “One Page, Two Policy Succession Plan”.

Identity of Trustee and Policy Owners

This Agreement enables the cover for each Life Insured to be split between two or more separate Policies owned by different parties:

  • the Purchase Price and/or Personal Cover might be owned by the Life Insured or a Related Party (or a Super Fund, where appropriate); and

  • the Debt Reduction and Key Person Cover might be owned by the Business (on the terms of the current tax-effective Trust Structure).

Legal Fee

The same Legal Fee applies to both types of Agreement.

 

Name of Policy Owner

There are two alternative methods of naming the Policy Owner on the Policy Application Form and the Policy itself:

  • “XXX Pty Ltd”; or

  • Something like “XXX Pty Ltd (as Trustee for the XXX Insurance Trust)”.

There is no problem with the second alternative, if you prefer it.

However, most Advisers choose the first alternative.

Life Insurance Act

Technically, section 201(1) of the Life Insurance Act prohibits notice of the trust from being endorsed on the Policy (because the Legislation doesn’t want the Insurance Company having to look beyond the Policy Owner at the time of a Claim).

Thus, the most common practice has some legislative authority.

Data Entry issue

The other factor is the size of the field for data entry of the name of the Policy Owner.

Sometimes, the field is just not long enough to accept a lengthy name including both the name of:

  • the trustee; and

  • the trust.

 

Copyright: Ian Gray Solicitor

 

 

Adviser Tip

The Trustee controls the Insurance Proceeds, but the Trust Agreement controls the Trustee.

The Trustee has a contractual and fiduciary obligation to comply with the obligations contained in the Trust Agreement.

See more Adviser Tips

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