Shareholder Protection Insurance

Fund buy-sell agreements and protect business ownership. From $180/month.

What is Shareholder Protection Insurance?

Shareholder protection insurance (also called buy-sell insurance) is a specialized life and disability insurance policy that provides the funding needed for surviving shareholders to buy out the shares of a shareholder who dies or becomes totally and permanently disabled.

When a shareholder dies or becomes disabled, their shares typically pass to their family or estate. Without shareholder protection insurance, the surviving shareholders may lack the funds to purchase these shares, potentially forcing the business into unwanted partnerships with inexperienced family members, or even requiring a business sale to meet the estate's needs.

This insurance ensures business continuity by providing immediate funds to execute a buy-sell agreement, keeping ownership with the people who actively run the business while providing fair compensation to the exiting shareholder's family.

Key Point: Shareholder protection insurance transforms a buy-sell agreement from a theoretical document into an executable plan with guaranteed funding when needed most.

Why Your Business Needs Shareholder Protection

Without Shareholder Protection Insurance:

Forced partnerships: Surviving shareholders may be forced into business partnerships with the deceased shareholder's spouse, children, or estate representatives who have no business experience
Business control issues: New shareholders may have different visions for the business or may demand immediate returns rather than long-term growth
Insufficient funds: Surviving shareholders typically can't afford to buy out a major shareholding from personal resources
Forced business sale: The estate may demand immediate payment, forcing a rushed sale of the entire business at below-market value
Bank financing challenges: Banks are reluctant to lend for share purchases after a shareholder's death, viewing it as higher risk
Business disruption: Disputes over ownership and direction can paralyze decision-making during critical periods

With Shareholder Protection Insurance:

Immediate funding: Insurance payout provides cash to purchase shares immediately
Fair value guaranteed: Exiting shareholder's family receives full value for their shares
Ownership control: Active shareholders maintain 100% ownership and control
Business continuity: Company operations continue uninterrupted
Pre-agreed terms: Buy-sell agreement specifies valuation method and terms in advance
Tax efficient: Insurance proceeds are typically tax-free when structured correctly

How Shareholder Protection Insurance Works

Step 1: Buy-Sell Agreement

Shareholders create a legal buy-sell agreement specifying what happens when a shareholder dies or becomes disabled. This agreement includes the share valuation method, purchase terms, and obligations of all parties.

Step 2: Insurance Policies

Each shareholder is insured for their share value. Common structures include:
• Cross-ownership: Each shareholder owns policies on the other shareholders
• Company-owned: The company owns policies on all shareholders
• Self-ownership: Each shareholder owns their own policy in trust

Step 3: Trigger Event

When a shareholder dies or becomes totally and permanently disabled, the insurance policy pays out the insured amount to the policy owner (either other shareholders or the company).

Step 4: Share Purchase

The insurance funds are used to purchase the exiting shareholder's shares according to the buy-sell agreement. The departing shareholder's estate receives fair value, and continuing shareholders maintain business control.

What Triggers a Payout?

Typically Covered

✓ Death of a shareholder
✓ Total and permanent disability (TPD)
✓ Terminal illness diagnosis
✓ Trauma events (if trauma cover included)

Optional Add-Ons

• Retirement trigger (if agreed)
• Redundancy cover
• Income protection component
• Partial disability provisions

Real-World Example

Case Study: Auckland Engineering Firm

The Situation: Three equal shareholders each own 33.3% of an engineering consultancy valued at $3 million ($1 million per shareholder). One shareholder unexpectedly dies from a heart attack at age 52.

Without Insurance: The surviving shareholders can't afford $1 million to buy the deceased's shares. His widow needs the money for living expenses but knows nothing about engineering. She becomes a 33.3% shareholder, creating conflicts over dividends, growth strategy, and business decisions. The business value declines due to uncertainty.

With Insurance: The shareholder protection policy pays out $1 million. The two surviving shareholders use this to buy the deceased shareholder's shares per their buy-sell agreement. The widow receives $1 million in cash immediately. The business continues operating smoothly with clear ownership, and the firm later successfully wins a major contract that would have been jeopardized by the ownership dispute.

Result: The insurance premium of approximately $350/month per shareholder ($4,200/year total) prevented a potential $3 million business failure and provided financial security for the deceased shareholder's family.

Policy Structure Options

Cross-Ownership Structure

Each shareholder owns life insurance policies on every other shareholder. When one shareholder dies, the others receive insurance payouts and use them to buy the deceased's shares.

Best for: Small number of shareholders (2-3), simple structures

Pros: Clear ownership, tax-efficient, straightforward

Cons: Becomes complex with many shareholders

Company-Owned Structure

The company owns life insurance policies on all shareholders. When a shareholder dies, the company receives the payout and buys back the shares, which are then cancelled or redistributed to remaining shareholders.

Best for: Larger number of shareholders (4+), corporate entities

Pros: Simpler administration, easier to add new shareholders

Cons: May have tax implications, requires careful trust structure

Self-Owned in Trust

Each shareholder owns a policy on themselves, held in trust for the other shareholders. On death, the trust pays out to the other shareholders to fund the share purchase.

Best for: Tax planning, protecting against insurer insolvency

Pros: Tax advantages, asset protection

Cons: More complex setup, requires proper trust documentation

What Affects the Cost?

Key Cost Factors

• Share value: Higher business valuations = higher premiums
• Age of shareholders: Older shareholders cost more to insure
• Health status: Pre-existing conditions increase premiums
• Occupation: Manual/hazardous work increases costs
• Smoking status: Smokers pay significantly more
• Number of shareholders: More shareholders = more policies needed

Typical Premium Ranges

$500,000 cover, age 40: $80-150/month
$1 million cover, age 45: $180-280/month
$2 million cover, age 50: $400-600/month
$5 million cover, age 55: $1,200-1,800/month

*Estimates for non-smoking, healthy individuals. Actual premiums vary based on health, lifestyle, and policy structure.

Tax and Legal Considerations

Tax Treatment in New Zealand

• Insurance premiums: Generally NOT tax deductible (personal insurance)
• Insurance proceeds: Typically received tax-free
• Share sale: May trigger capital gains (consult tax advisor)
• Structure matters: Company-owned policies may have different tax treatment

Legal Requirements

• Buy-sell agreement: Must be properly drafted by a lawyer
• Company constitution: Should align with buy-sell provisions
• Valuation method: Must be clearly specified (book value, market value, formula-based)
• Regular updates: Agreement should be reviewed every 2-3 years as business grows
• All parties sign: Every shareholder must agree to the terms

How to Set Up Shareholder Protection

Get Business Valuation

Determine current business value and each shareholder's share value. Consider engaging an independent valuer for accuracy.

Draft Buy-Sell Agreement

Work with a lawyer to create a comprehensive buy-sell agreement covering death, disability, retirement, and other trigger events.

Choose Policy Structure

Decide on cross-ownership, company-owned, or self-owned structure based on your situation. Consider tax and administrative implications.

Apply for Insurance

Each shareholder completes medical underwriting. Premiums depend on age, health, and coverage amount required.

Policies Start

Once approved and first premiums paid, coverage begins. Keep policies updated as business value grows.

Regular Reviews

Review and update coverage every 2-3 years as business value changes, or when shareholders join/leave.

Common Questions

What if the business value increases significantly?

You should increase coverage as business value grows. Most policies allow increases subject to underwriting. Alternatively, add new policies to supplement existing coverage.

What happens if a shareholder can't get insurance due to health?

Options include: insuring them for a lower amount, excluding them from the insurance arrangement but keeping the buy-sell agreement, or using a self-funding arrangement where the company saves funds to purchase their shares.

Do premiums increase over time?

Yes, premiums typically increase with age on yearly renewable policies. Level premium policies maintain the same premium for a set term (e.g., 10-20 years) but are initially more expensive.

What if we add a new shareholder?

The buy-sell agreement and insurance structure must be updated to include the new shareholder. They'll need to obtain insurance coverage, and existing policies may need adjustment.

Is trauma cover necessary in addition to life and TPD?

Trauma cover is optional but recommended. It provides a payout if a shareholder suffers a major health event (heart attack, stroke, cancer) even if they return to work. This gives time for restructuring if needed.

Can we include retirement as a trigger event?

Yes, but this requires a different approach. Retirement is predictable, so funding through insurance becomes expensive. Consider combining insurance (for unexpected exit) with a savings plan (for planned retirement exits).

Key Benefits of Shareholder Protection

Guaranteed Funding

Insurance provides immediate cash when banks won't lend

Maintain Control

Keep ownership with active shareholders

Fair Exit Value

Departing shareholder's family receives full value

Prevent Business Sale

Avoid forced sale at below-market value

Tax Efficient

Insurance proceeds typically received tax-free

Business Continuity

Operations continue without disruption

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