Now is a good time to review your trust instruments, family office documents, or company’s governing documents and succession plans to ensure you are prepared to deal with whatever the future brings before it happens.

1. Death of a Business Owner

The death of an owner of a private business may cause not only grief, but also turmoil for the company or the family. Without a thoughtful succession plan that is formalized in governing documents, an owner’s death may result in unexpected difficulties for the family office, trust beneficiaries, the business, other business owners, and family members, including:

• A fight for control of the business or the family office

• Loss of significant business income by the deceased owner’s family

• Liquidity issues if the company is required or desires to purchase the deceased owner’s shares

• Significant estate and income tax liabilities for the deceased owner’s estate

Business owners should review their company’s governing documents to understand what rules apply when an owner dies. Those documents might include operating agreements, shareholder agreements, or other contracts.

Owners should assess how the deceased owner’s shares would transfer and to whom, what transfer terms would apply, whether significant tax liability would be likely, and whether the buyer would be likely to have sufficient cash to purchase the shares (if required). Owners should also consider whether any share transfer provisions in the company’s governing documents conflict with the terms of any trusts that hold shares in the business.

If the owners are dissatisfied with how the governing documents deal with an owner’s death, they should negotiate revisions sooner rather than later. They should also consider whether to make other plans in the event of an owner’s death. For example, if an owner has significant management responsibilities, the company should consider purchasing “key-man” life insurance and documenting a management succession plan.

2. Disability of an Owner

Many of the same considerations that apply to an owner’s death also apply to a situation involving disability. Typically, individuals are considered disabled when they can no longer conduct ordinary business prudently. Without clear rules set forth in the governing documents, an unexpected disability may cause even more turmoil for the business or the family office than an unexpected death.

What happens, for example, when an owner who has significant management responsibilities is no longer able to fulfill them as a result of a disability? That can spur a quarrel over who has the right to manage the business or make decisions for the business.

And without a clear definition of a “disability” in the company’s governing documents or the trust instrument, there may even be a dispute over whether a business owner is disabled.

Business owners, family offices, and trustees should review their governing documents to understand when a fiduciary or decisionmaker may be deemed disabled and what rules apply if that determination is made. Those documents should specify procedures for dealing with a disability, a clear and comprehensive definition of “disability,” and who has the ultimate authority to determine whether someone is disabled.

3. Divorce of an Owner or Beneficiary

The termination of an owner’s marriage can cause problems for a company because the owner’s ex-spouse could have a claim to a portion of the owner’s shares. Likewise, the termination of a trust beneficiary’s marriage can cause problems for trustees or other beneficiaries.

For example, without planning, the divorce may give an outsider (who may lack experience with the business or lack required knowledge or skills) all of the rights associated with ownership, including voting rights, earnings distributions, and access to confidential information. Similarly, the family member’s divorcing spouse might seek information about the family business or other family wealth, or about the family office itself, or might be named as a beneficiary or fiduciary in family trust instruments or as a member of a family foundation’s board.

Business owners, family offices, and trustees should review their governing documents to determine whether the company, owners, trustees, and beneficiaries are protected in the event of a family member’s divorce. One common protection for a company is to require a divorcing owner’s shares to be sold to the company. Other protections are to require that the owners’ shares be held in trusts with powers designed to limit a divorcing spouse’s access to the shares or that a beneficiary enter into a prenuptial agreement that protects the ownership interest and other trust assets in the event of divorce.

4. Disputes Among Business Owners, Family Members, or Trust Beneficiaries

Disputes among business owners, family members, or trust beneficiaries are disruptive and cannot always be avoided, and often force others to take sides. As a result, the company, family office, or trust may incur significant legal expenses. A dispute may even result in public disclosure of sensitive information.

Business owners should review the company’s governing documents to assess whether appropriate dispute resolution procedures are in place to protect their interests and the company’s interests. Important considerations are whether arbitration is required or if public litigation is allowed, how the company’s confidential information will be protected, and whether the company may be responsible for the litigation expenses of certain owners or managers. Arbitration agreements or other dispute resolution provisions may not be enforceable in the context of trust instruments.[1] Family offices, however, may consider whether other agreements provide an opportunity to implement protective dispute resolution procedures to minimize any damage from a dispute.

One common way to attempt to avoid protracted disputes is mandatory mediation or some other informal, confidential dispute resolution process before a claimant can bring a formal claim against another owner, the company, or the family office.

Action Item: Take a Dry Run

Consider reviewing the company’s or the family office’s current plans and governing documents, or the family’s trust instruments, as if a death, disability, divorce, or dispute were presently occurring. What are the consequences? Such a “dry run” exercise can identify needed changes to the status quo. We recommend that family offices, trustees, and business owners start having the tough conversations soon to prevent or mitigate turmoil down the road.

[1] See, e.g., Boyle v. Anderson, 871 S.E.2d 226 (Va. 2022) (declining to enforce arbitration provision in trust instrument); Estate of Hekemian, 2023 WL 176098 (N.J. Super. Ct. App. Div. Jan. 13, 2023) (same).  But see Rachal v. Reitz, 403 S.W.3d 840 (Tex. 2013) (enforcing trust provision requiring arbitration).