Shareholder Agreements

You and a friend or family member are starting a business and have decided to form a corporation. While you are preparing to file the legally required incorporation documents, you should seriously consider developing a shareholders’ agreement. This crucial, voluntary and consensual contract among shareholders can protect everyone’s financial interests if a major event prevents one of the shareholders from continuing in the business.

Also known as a Buy-Sell Agreement, a shareholders’ agreement outlines what happens to the shares of a shareholder who:

• Dies
• Divorces their spouse
• Becomes disabled
• Wants out of the business
• Files for personal bankruptcy

When a shareholder dies, his or her shares in the company become part of shareholder’s estate that can be left to the surviving spouse, children or any other beneficiary. When a shareholder divorces his or her spouse, the shares become marital property that could be awarded to the ex-spouse. Other events such as medical disability, internal disputes or personal bankruptcy may force a shareholder to sell shares to an unknown person or entity.

A formal shareholders’ agreement can prevent the untenable situation in which an “outsider” becomes a shareholder of the company with the right to control business decisions. A typical shareholders’ agreement answers questions such as who can hold stock in the business and who can serve on the board of directors. A shareholders’ agreement could provide that if a shareholder dies, the company will buy back the deceased’s shares. In situations like divorce, disability, dispute or bankruptcy, shareholders’ agreement could state that if a shareholder wants to sell shares, they must first be offered to the other shareholders.

In non-traded businesses, the price at which shares will be sold can be a point of contention. Uncle Sam will probably be interested in the sale to make sure that capital gain is not under-reported by conspicuously low pricing. Consequently, the shareholders’ agreement often specifies “fair market value” and must be determined at the time of the sale. Sometimes a formula is outlined in the agreement, but this can attract tax scrutiny unless it yields a price close to fair market value.

Let our experienced and knowledgeable business attorneys help you draft a thoughtful shareholders’ agreement that clearly outlines the rules for managing the business, resolving shareholder disputes and transferring shares. A shareholders’ agreement, along with the corporate bylaws, ensures the company’s stability, prevents disruption and protects the financial interests of shareholders and their families should there be a change in one shareholder’s personal circumstances.