When you start a business with other people, each of you own a percentage of it – a share. In a two-person partnership, each of you might have a 50-50 share. Adding more people or entities of ownership, obviously, means a reduced shared for everyone.
But what if one of those entities decides they no longer want to be an owner? Or that they would like to have a larger percentage in order to have more control?
This is where business share transfers come in. Check out the video below for an overview.
What Are Transfers and How Do They Work?
Read Transcript
Thanks for tuning in to another dose of Bite-sized Bits of Knowledge, where we give you meaningful information in a short amount of time. Today we’re talking about transfers. It’s a big concept, so we’re going to break it up into a bunch extra pieces. What I want to get into today is the concept of transfers as a whole – big picture. And that’s broken up into a lot of different videos to follow.
So, first we have voluntary transfers, then we have involuntary transfers. We have rights of first refusal transfers. We have – or should have – in your agreement something to the effect of good transfers and bad transfers.
And it’s important to mention that transfers don’t necessarily have to mean all of your shares. It could be part of your shares. It could be certain interests in your shares. So it’s really important to understand the concept.
To jump in, I want to start with voluntary transfers. Most good agreements are going to find language relating to what’s called “permitted transfers” or “approved transfers,” or they might just have a blanket prohibition on transfers altogether.
Sometimes you’ll see something like “all the partners are prohibited from transferring their shares,” period. Sometimes you’ll see something that says the partners can transfer the shares only with the approval of the board or only with the approval of a unanimous agreement of all the other partners or a lesser threshold agreement of all the partners.
Regardless of the threshold or the approach, it should be in there.Every deal is different. The intents of the parties are always different. It can vary in a lot of different ways. It just needs to be there. It needs to be discussed.
And so the reason why is this. Consider this. You have a situation where you have three partners. You worked hard, you put all your blood, sweat, and tears into the business, and you have a partner who just wants to cash out. And they do. They sell their shares. You find out through an email because he’s on his yacht in Tahiti that he sold his shares.
And now you have a partner – this random person or random business – and you don’t know them. They don’t know you. You don’t know their qualifications, and you don’t know if you’re even going to like them. You don’t know if they’re going to fit in to your culture. But it happens because it could, and it did.
So they cashed out. Now you have a new partner. Congratulations. That is a nightmare for most businesses. And so that’s why you want to have something preventing that. You want to make sure that you’re more in control of who can get out and how.
So voluntary transfers, as the name suggests, really depict a scenario where one person or entity – partner – wants to get out and whether or not that’s allowed. And, of course, the mechanics of how that usually will work are also to be addressed in the agreement. It’s a big mistake not to address it. I’ll explain why all in another video coming up soon.
So don’t forget to download the free materials below relating to our business planning stress test. Our formation chart, if you haven’t already done so, and maybe some other freebies that would be very helpful to you in the description.
Thanks for stopping by and stay tuned for more.
As mentioned in the video, business share transfers is a complicated subject, and there are all kinds of variables and types of transfers out there.
While we will be diving into more of those specifics in future posts and videos, here we’re going to stick to the general concept of transfers and the basics that you should understand.
Reasons Someone Might Initiate a Transfer
This seems like a good place to start. We mentioned a couple of very general ideas above, but I wanted to dig a bit deeper into some more specific reasons that someone could start looking into transferring shares.
When a Shareholder Dies
This one seems pretty obvious, right? If someone is dead, they can’t legally own the share anymore. Depending on the rules of transfer for the business in question, this might mean a transfer to the decedent’s beneficiaries – or that the beneficiaries must sell the share to someone in the company, because they are not allowed to own the share if they aren’t part of the business.
When a Shareholder Leaves the Company
Generally, this applies in two situations. One, a shareholder quits to pursue other opportunities. Two, the shareholder’s employment with the company is terminated. In either case, rules may require them to part with their shares since they’re no longer with the company – or they may wish to transfer them.
When a Shareholder Retires
Technically, this also falls under the above description, but often people don’t think about retirement in the same way. After all, the shareholder isn’t moving on to a different business – they’re just traveling the world or taking up golf. But, also similar to the above, they may wish to sell or give away their shares – or rules may force their hand.
When a Shareholder Becomes Incapacitated
Here’s another one people rarely consider. What if someone who owns a percentage of your company becomes incapacitated after an accident or illness? They haven’t left the company, and they’re still alive… but there is no practical way that they could continue their part in the business. In such a position, it may be in their best interest – or the group’s best interest – for their shares to transfer to another entity.
When the Company Goes Bankrupt
Bankruptcy is a time of major upheaval for anyone, so it should come as no surprise that, when a business declares bankruptcy, shareholders often initiate transfers.
The next thing you need to understand is how the structure of your business itself plays a role in business share transfers.
How Business Structure Can Impact Transfers
A number of financial, legal, and operating issues related to transfers will be impacted by the type of business structure you choose.
Let’s break it down by individual structure.
- Sole proprietorship
In the case of a sole proprietorship, you’re not really selling the business or your share of the business (obviously, since there’s only you). Instead, what you are selling or transferring are the assets of your business.
Basically, this means that your business — the sole proprietorship – dissolves, and the entity who buys them is able to use those assets.
By definition, a sole proprietorship has just one owner. Thus, a business owner can’t really sell a sole proprietorship, although they can sell its assets. The sole proprietorship dissolves as a result, and the buyer can use those assets (or any rights to liabilities that they purchase) in whatever kind of new business structure they want.
To sell your business assets, you first need to value your business so that you can come up with a sales price. Then you have to create a sales contract itemizing how much the buyer paid for each asset.
- Partnerships
Whether a business has two partners or twenty, the rules are the same. When someone leaves, you use the operating agreement to determine what transfer options they have available to them.
Let’s use an example where the agreement says that partners need to distribute their stake back to the remaining partners. Essentially, this means they will transfer their share to those partners for additional income.
Once the shares are transferred, the operating agreement must be updated to reflect the current ownership percentage, and the state has to be sent a new partnership filing.
- LLCs
Same situation here. The only real difference is in terminology. Instead of transferring their stake in the company, the outgoing partner sells it to the company.
After this happens, new articles of organization and a new operating agreement will have to be created and filed.
- Corporations
Regardless of the type of corporation, the process for transferring shares is the same. These types of shares can be bequeathed, gifted, or sold. In order to do so, approval from other shareholders and the board of directors may be needed. An additional requirement for S Corporations is that transfers may not result in more than 100 total shareholders.
Finally, if you want to maximize proceeds and minimize taxes, work with tax advisors and a lawyer to figure out the best time and method of sale.
As mentioned above, business share transfers are complex. If you would like some help navigating this often-confusing landscape, reach out to today to speak with an experienced Florida business planning attorney.
And don’t forget to download our FREE:
Florida Business Entity Comparison Chart
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Originally published 01/27/2022. Updated 12/17/2023.
Author:
Barry E. Haimo, Esq.
Haimo Law
Strategic Planning With Purpose®
Email: barry@haimolaw.com
YouTube: http://www.youtube.com/user/haimolawtv
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