Family companies – start estate planning!

Posted: 13th April 2017

PatientWhen it comes to family companies, the death of a shareholder can give rise to very serious tax consequences and, as one High Court case vividly revealed, it is never too early to seek expert advice in respect of estate planning.

After learning that a company’s founder and majority shareholder was terminally ill with cancer, its directors were concerned that the entirety of his £490,000 director’s loan account would be immediately repayable on his death. Their response was to issue him with 490,000 new shares in the company, each with a nominal face value of £1. By that means, the debt was effectively swapped for shares.

The unforeseen result of that transaction, however, was to fundamentally shift the balance of shareholder interests in the company. It had the effect of transferring a very significant proportion of the company’s value – at least £15 million – to the founder. After his death, it thus also created a potential for substantial Inheritance Tax and Capital Gains Tax charges on his estate.

In those circumstances, the company launched proceedings to set aside the transaction on the basis that the new shares had been issued by the directors in breach of their fiduciary duties. The application was not resisted by the directors.

In granting the relief sought, the Court noted that the directors had given little thought to estate planning prior to the founder’s terminal diagnosis and had thus acted in something of a rush. It was plain that, had they understood the effect of issuing the new shares, they would not have done so. The directors had breached their duties in failing to take into account relevant considerations, including the massive dilution of the value of other shareholdings and the potentially very serious tax consequences that the transaction entailed.