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They think it’s all Strover

Life insurance generally, and business insurance in particular, is vastly underadvised, undersold and under- bought (is that a word?). Surprised? I thought not.

Swiss Re’s excellent ann- ual insurance report sugg- ests that the protection gap stands at over 2trn. Yes, that’s trillions.

Business insurance is a component in either a key person (business survival) or share purchase (business succession) solution. The fact that there is more to delivering each of these sol- utions than a simple policy of life insurance is what may make activity in the business insurance market less than it should be.

Share succession, by which I mean arrangements made to provide for the passage of shares in a business (incorporated or not) to surviving partners or shareholders following death or, in some cases, critical illness, usually has a little more to it than a key person solution. Typically, the key components will be:

  • A will.M
  • A double/single option agreement.
  • A policy.
  • A trust.

There will also be the need to agree a business value for the arrangement.

Advisers working in this area will be aware of the continuing saga of the pre-owned assets tax and business trusts under which the settlor/life assured can benefit. There is the issue of valuation of the arrangement and, most important, there is the issue of arranging for an equitable and tax-effective attribution of cost. So it is easy to see how it gets its reputation as a diff- icult area of business. As a result, many put it into the “interesting but too hard” category and, in the words of Dionne Warwick, walk on by.

The recent case of Strover and Another v Strover and Another highlighted the importance of being completely clear about the outcomes being sought and articulating these clearly and in the correct language in the documentation evidencing the solution.

The decision in this case is particularly important as it illustrates the potential problems that may arise where there is a lack of total agreement and clarity as to the legal structure surrounding any share purchase arrangement.

The facts of the case were as follows. In 1992, a partner, David Strover, effected a 10-year policy on his life written in trust. The two existing partners, who had previously effected policies, at that time changed the provisions of their trusts to include him as an immediate beneficiary of those policies. All the policies were written subject to a trust under which the other partners were named as the default beneficiaries but the trustees had the power to appoint benefits to the settlor, settlor’s spouse and children.

In 1995, DS retired from business on health grounds. However, following his retirement, the premiums on the policy continued to be paid by the partnership and debited to his capital account. DS made it clear that he wanted the policy to remain in force as he was unable to obtain further cover due to his deteriorating health. There was some correspondence between the partners but no appointment was made by the trustees in favour of DS or his family under the trust.

DS subsequently died and, once the two-year period during which an appointment could be made expired, the two surviving partners became absolutely entitled under the terms of the trust. The personal representatives of DS brought a case against the surviving partners, claiming that the proceeds should be paid to the family on the basis that the intention was that the other two partners should only benefit if DS died while an active partner in the business.

It was clear that when the policies were effected, insufficient thought was given to what should happen to the policies in trust in the event of a partner retiring or the firm dissolving although there was some evidence that the partners intended that, in such circumstances, the policy should revert to the retiring partner or his estate.

The High Court judge decided that there was no case to rectify the trust although he concluded that none of the partners “really knew what was meant by the policy being in trust, nor did any of them think that it mattered”.

If there had been a clear agreement between the parties that, in the event of the retirement of one of them, the policy should be held on trust for the retiring partner, his estate or the benefit of the family, then notwithstanding the express trust provisions, it could be argued that a constructive trust existed in favour of the family. However, in this case, there was no such clear agree- ment between the parties.

Nevertheless, the judge held that there was a proprietary estoppel in favour of the deceased, meaning that the estate was entitled to some benefit from the policy proceeds. In the case of a proprietary estoppel, there may be no agreement as such. However, one party has acted to his detriment by relying on representations made by others. In the case in question, DS continued paying the premiums after he retired and the surviving partners had been aware that he wished to maintain the policy for the benefit of himself and his family.

The judge felt that if the parties had addressed the issues properly after DS’s retirement, the appropriate changes to the trust would have been made. However, the judge allowed for the possibility that the corrective step may not have been taken and allowed a discount of 20 per cent, which meant that 20 per cent went to the surviving partners and 80 per cent to the family.

For completeness I should add that the case also involved another policy, not in trust, which was effected as security for a partnership loan (subsequently repaid) and held to be a partnership asset. This meant that all the partners, including the deceased, benefited from the proceeds in appropriate shares.

This case raises a num- ber of very important issues. which I will consider in next week’s article.

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