Close Corporation Plan

Close Corporation Shareholder Agreement Stock Purchase Business Succession Planning Corporate Finance Estate Planning Valuation Methods Business Law
A Close Corporation Plan consists of a pre-arrangement that ensures surviving stockholders can purchase the shares of a deceased stockholder based on a pre-determined formula, thereby maintaining control of the corporation within the existing shareholder group.
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Definition

A Close Corporation Plan is a pre-arranged legal agreement among the shareholders of a closely held corporation to facilitate the purchase of a deceased stockholder’s shares by the surviving stockholders. This plan often includes a predetermined formula for valuing the shares, ensuring a smooth transition of ownership and preservation of control within the existing group of shareholders.

Examples

  1. Small Family Business:

    • A family-owned business implements a Close Corporation Plan to ensure that if any family member (shareholder) passes away, their shares can be purchased by the surviving family members. This arrangement prevents the entry of external parties and keeps the business within the family.

  2. Private Tech Startup:

    • Founders of a tech startup agree on a Close Corporation Plan specifying that in the event of a founder’s death, the remaining founders have the first right to purchase the deceased founder’s shares at a value determined by a predefined formula, ensuring stability and continuity in the company’s leadership.

  3. Professional Service Firm:

    • Partners in a law firm establish a Close Corporation Plan where partners agree to buy out any deceased partner’s interest based on the firm’s valuation metrics. This approach protects the firm’s operations and maintains client confidence in its stability.

Frequently Asked Questions (FAQs)

What is the main purpose of a Close Corporation Plan?

The primary purpose is to provide a mechanism to transfer the ownership of shares from a deceased shareholder to the surviving stockholders, ensuring business continuity and preventing external parties from gaining control.

How is the value of shares determined in a Close Corporation Plan?

The value is usually determined by a pre-agreed formula that may consider factors such as earnings, book value, or a valuation by an independent appraiser.

Who benefits from a Close Corporation Plan?

Both the corporation and the surviving shareholders benefit as it maintains control within the established group, prevents disputes, and ensures the deceased shareholder’s estate is fairly compensated.

Is a Close Corporation Plan only applicable to family businesses?

No, it can be implemented in any closely held corporation, including startups, professional partnerships, and closely held firms regardless of family ties.

How legally binding is a Close Corporation Plan?

When properly drafted and executed, it is a legally binding agreement enforced by corporate by-laws or shareholder agreements.

  1. Shareholder Agreement: A contract among a company’s shareholders describing how the company should be operated and the shareholders’ rights and obligations.
  2. Buy-Sell Agreement: A legally binding agreement that stipulates how a partner’s share of a business may be reassigned if that partner dies or otherwise leaves the business.
  3. Business Succession Planning: The process of planning for the continuation of a business after the exit of one or more owners.
  4. Valuation Methods: Techniques used to determine the current worth of an asset or a company, which can include market value, book value, or earnings-based methods.

Online References

  1. Investopedia - Close Corporation Definition
  2. IRS - Shareholder Agreements and Buy-Sell Agreements
  3. American Bar Association - Business Succession Planning
  4. Nolo - Corporate Buy-Sell Agreements

Suggested Books for Further Studies

  1. “Corporate Finance: The Core” by Jonathan Berk and Peter DeMarzo.
  2. “Business Succession Planning For Dummies” by Arnold Dahlke.
  3. “Valuation: Measuring and Managing the Value of Companies” by McKinsey & Company Inc.
  4. “The Complete Guide to Buying and Selling a Business” by Fred S. Steingold.

Fundamentals of Close Corporation Plan: Business Law Basics Quiz

### What is the main purpose of a Close Corporation Plan? - [x] To provide a mechanism to transfer ownership of shares from a deceased shareholder to surviving stockholders. - [ ] To sell all corporate assets upon a shareholder's death. - [ ] To merge with another corporation following a shareholder's death. - [ ] To dissolve the corporation upon a shareholder's death. > **Explanation:** The Close Corporation Plan is designed to ensure the smooth transfer of ownership and continuity of the corporation by allowing surviving stockholders to purchase the deceased stockholder’s shares. ### How is the value of shares in a Close Corporation Plan typically determined? - [ ] By the recent market price of shares. - [x] By a pre-agreed formula considering earnings, book value, or an independent appraisal. - [ ] By mutual agreement of the remaining shareholders. - [ ] By the face value of the shares. > **Explanation:** The value of shares is typically determined by a pre-agreed formula established during the formation of the plan to ensure a fair and agreed-upon method of valuation. ### Who can benefit from a Close Corporation Plan? - [ ] Only the deceased stockholder's estate. - [ ] Only the corporation's public shareholders. - [x] Both the corporation and the surviving shareholders. - [ ] Only potential external investors. > **Explanation:** Both the corporation and the surviving shareholders benefit as the plan maintains control within the established group and ensures fair compensation for the deceased shareholder's estate. ### Is a Close Corporation Plan limited to family-owned businesses? - [ ] Yes, it is only for family-owned businesses. - [x] No, it can be implemented in any closely held corporation. - [ ] Yes, it can only be used by businesses with family ties. - [ ] No, it is designed for public corporations. > **Explanation:** The Close Corporation Plan can be implemented in any closely held corporation, including those without family ties, such as startups, professional firms, and small privately-held companies. ### What makes a Close Corporation Plan legally binding? - [ ] Verbal agreements among shareholders. - [ ] The corporate logo embossed on documents. - [x] Proper drafting and execution according to corporate by-laws or shareholder agreements. - [ ] Approval by the local chamber of commerce. > **Explanation:** When properly drafted and executed according to corporate by-laws or shareholder agreements, the Close Corporation Plan is a legally binding document. ### Upon whose death does the Close Corporation Plan become active? - [ ] Any employee's. - [ ] A major supplier’s. - [ ] An auditor’s. - [x] A shareholder’s. > **Explanation:** The Close Corporation Plan specifically comes into effect upon the death of a shareholder, allowing for the transfer of their shares. ### What terminology is commonly associated with Close Corporation Plans? - [x] Shareholder agreement and Buy-sell agreement. - [ ] Equity release and Merger plan. - [ ] IPO and Benchmarking. - [ ] Public offering and Liquidation. > **Explanation:** Terms frequently associated include shareholder agreement, buy-sell agreement, and business succession planning. ### What aspect of a business does a Close Corporation Plan primarily protect? - [ ] The business's public image. - [x] The continuity and control of the business. - [ ] The seasonal profits. - [ ] The liquidity ratios. > **Explanation:** The Close Corporation Plan primarily protects the continuity and control of the business by allowing existing shareholders to retain management and operational control. ### Can a Close Corporation Plan include valuation by an independent appraiser? - [x] Yes, it is one of the methods for determining share value. - [ ] No, it must rely solely on book value. - [ ] No, it must rely on shareholder agreements only. - [ ] Yes, but it must be approved by the chamber of commerce. > **Explanation:** Valuation by an independent appraiser is one method used to determine the value of shares under a Close Corporation Plan, ensuring an unbiased assessment. ### What is a major benefit of establishing a Close Corporation Plan? - [ ] Increasing the number of shareholders. - [ ] Expanding corporate locations. - [x] Ensuring business continuity and fair compensation for the deceased shareholder's estate. - [ ] Mandatory public disclosures. > **Explanation:** A major benefit of a Close Corporation Plan is ensuring business continuity and providing fair compensation for the deceased shareholder’s estate, promoting stability within the business.

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Wednesday, August 7, 2024
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