Each person who has a significant share in the business should consider having protection whether they are a major or minor shareholder, for example:

• all partners in a business partnership of any size
• the shareholders of a private limited company (except those with only a very small shareholding, whose value is low enough for the other shareholders to be able to buy them out without needing extra funds).

For the sake of simplicity we will call partners and shareholders the ‘business owners’.

Depending on the type of partnership or shareholder protection, it can help by enabling the business owners to continue trading following the loss of a key member of the business, as it means that when used as part of a suitable arrangement the remaining business owners can choose to buy out the interest of a critically ill or deceased business owner. It also helps to ensure that the business owner’s family receives the full value of their interest in the business on death.

Without this type of cover, control of the business could pass to someone who has no experience of, or no interest in, the day to day running of the business. The new owner may wish to run it in a way that is unacceptable to the other owners or even want to sell their share rather than becoming involved in the business. 

With suitable cover and a suitable arrangement in place, the remaining owners do not have the issue of raising capital to buy out a business owner who is critically ill, or the heirs of a business owner who has died, and allows them to keep control of the business. 

If a company’s Articles of Association include a pre-emption clause, the remaining shareholders have an automatic right to buy the shares of a partner who dies or leaves due to illness.

If a partnership has not drawn up a partnership agreement, under current law the partnership will end on the death of any of the partners.

Typically each individual business owner needs to take out a separate plan, written under a business assurance trust. The business owners must decide between life cover and critical illness cover or a combination of the two.

The policy can be a fixed or whole life term, depending on the business owner’s specific needs.

For example, it can be set up for a fixed term, to last until the selected retirement age of each life assured or it can last for life. Depending on the arrangement chosen and the type of cover, it may be possible, after retirement, for the policy to be assigned to the life assured to provide cover at a time when they might find it difficult to take out a new policy. There may be taxation considerations on such an assignment.

Typically the amount of cover should reflect the value of each owner’s full share in the business. One way of measuring this is as a proportion of:

• the capital value of the business, plus
• the goodwill included in the accounts, plus
• any undistributed profits, plus
• the individual’s loan or partnership account. 

The value of the business should normally be assessed professionally, to establish the sums assured needed and our underwriters may ask to see a copy of the valuation.

Typically, each person should be covered for the full value of their share of the business. The value of each share should be reviewed regularly to ensure that the cover remains adequate as the value of a company can change over time. It can therefore be useful for the policy to have the flexibility to accommodate this, both through annual inflation-proofing increases, and through large single increases. A valuable feature can be the ability to increase without giving further health evidence.

Depending on the number of lives to be covered, partnership and shareholder cover can be set up in the following ways:

• Life of another.
• Written in trust.

Whichever way your client chooses, they should also have an agreement on how they will use the funds after a claim, for example a cross option or single option agreement. See ‘Business Protection – setting up the business agreement’.

In order for HMRC to accept the plans as a commercial arrangement, it can be useful to ‘equalise’ the premiums so that each person covered pays their ‘fair’ share of premiums in line with their likelihood of benefiting from the cover. 

When setting up the business protection it is important to consider the taxation implications. Since the company is not normally involved in the arrangement, premiums are usually paid by the individual, and no tax relief is available. Typically no income or capital gains tax is due when the benefits are paid. If the settlor is included as a possible beneficiary of the trust, pre-owned asset tax (POAT) may be payable on the retained benefit. See 'Taxation of business protection' for more information.

When a policy is written under a discretionary trust, periodic charges and an exit charge may be due if the value of the policy is higher than the nil-rate band for inheritance tax.