Find out the different types of partnership protection available to businesses to help you work out which will be best for your business
Nearly one in 10 businesses in the UK are registered as partnerships, making them one of the most common business types in the country.
A partnership allows two or more people to set up a business, but without much of the paperwork and registrations needed to set up a limited company.
For one you don’t have to register with Companies House.
They can also be better for tax because, as a partner, you can take your earnings directly from the company profits so they won’t be liable for National Insurance contributions, unlike taking home a PAYE salary from a limited company.
However, while there’s no legal requirement to have a partnership agreement written down, it’s highly advisable to get one, particularly when thinking about what would happen to the business if one partner left.
Without an agreement in place, if a partner left the company – for example through death or illness – the partnership would simply dissolve, regardless of whether the remaining partners wanted, or planned, to carry on.
With a partnership agreement in place, you could dictate what would happen to any outgoing partner’s interest in the company, and protect its future.
When it comes to choosing the type of partnership agreement, there’s a few options and not every business is suited to every option.
To help you, here’s the main partnership agreements you can choose from when setting up partnership protection.
Automatic Accrual
Using an automatic accrual agreement, you won’t actually go through a sale and purchase of any interest in a company should one of the partners die or leave.
Instead, the partnership will continue as normal, with the outgoing interest in the company automatically passing to the remaining partners.
This is the case whether it’s a standard partnership or limited liability partnership (LLP).
The individual partners will be responsible for taking out their own life insurance cover, and this would be expected to cover the value of their share in the business (similar to shareholder protection).
In the event of a death, the deceased shareholder’s interest in the company would be passed straight to the remaining partners, and the life insurance would pay out with the funds going to the deceased’s beneficiaries as compensation for their interest in the company.
Typically this type of agreement would involve placing the life insurance policies in a trust to help avoid unnecessary tax implications.
Buy and Sale agreement
Under this agreement, each partner will enter an agreement that states if one of them dies or becomes critically ill and can’t carry on in the business, the remaining partners will buy their interest in the company, and their estate has to sell it.
Similar to automatic accrual, each partner will take out a life insurance policy on themselves, except this time it will be paid into a trust for the benefit of the remaining partners – rather than their family or beneficiaries.
Another option could be to take out a ‘life of another’ agreement.
Under this agreement each partner would be covered by a policy, but they wouldn’t own the policy that covers them.
Instead, it would be owned by another partner, or it could be owned by the business.
One thing to consider before entering a Buy and Sale agreement, is that you could sacrifice some of the tax benefits from any policy proceeds.
Cross option agreement
A cross option agreement works in a similar way to buy and sell, in that the partners will agree to buy the interest, and the estate will agree to sell it.
The main difference is the agreement isn’t legally enforceable until either of the parties exercises their rights under the agreement.
For example, the remaining partners could exercise their right to buy the shares and the estate would have to comply, even if they didn’t want to, and vice-versa.
But until that happens, there’s no legal obligation to do anything.
If you’re concerned about the tax implications of using a buy and sell agreement, a cross option agreement could be a better choice.
That’s because it’s not assessed as a binding agreement of sale, so business property relief would still apply for tax purposes, meaning a cross option agreement can be more tax efficient.
Which Partnership Protection should you choose?
The type of agreement you decide to pick will depend entirely on your individual preferences and the circumstances of your partnership and business.
From a simplicity standpoint, automatic accrual and buy and sell agreements are generally the easiest to understand and implement – but you do have the potential tax drawbacks of going down the buy and sell route.
A cross-option agreement could be the most tax efficient agreement, but could be more complicated to set up.
The best thing to do is take professional advice so you’re sure you’re making the right choice.
Why you should consider partnership protection insurance
With most of the partnership agreement options, it’s a requirement that partners take out relevant life insurance.
This life insurance is important as it ensures the required funds are available to purchase any outgoing interest in a company – whether that payment goes directly to beneficiaries, or to the other partners to fund a purchase.
Partnership Protection Insurance is the best way to make sure you have the financial side of your partnership agreement covered.
It can be taken out by individuals, or as a life of another plan, and placed into a business trust to meet the requirements of any partnership agreement.
Arrange your Partnership Protection with Rigby Financial
By choosing Rigby Financial to help with your partnership protection you’ll have a team of experts at your side who can guide you through the process of protecting your business and your family’s financial future.
We can help you choose the right agreement and find the right level of protection insurance to give you reassurance that any transfer or sale of interest in your company will happen easily.
Going through the death of a business partner can be a traumatic situation.
Having Partnership Protection in place simply helps remove another thing you have to worry about.
If you want to know more, get in touch.