Entrepreneur’s will part I: Not an option, but a must for entrepreneurs!

Business owners and shareholders should not leave their succession to the law in order to prevent negative consequences of statutory succession on the business and/or the heirs in the event of death. This applies to owners of sole proprietorships as well as shareholders of partnerships and corporations.

Legal succession poses considerable risks for companies

Legal succession under the German Civil Code (BGB) assumes that the children of a deceased person and their spouse inherit the entire estate in specific proportions. The spouse and children of a deceased person become joint heirs and thus joint owners of all assets in the estate. If there are no children, it is also possible for a community of heirs to be formed between the spouse and the parents/siblings of the deceased.

If a company or shares in a company form part of an estate, the following also applies in principle: all heirs jointly take the place of the deceased.

On the one hand, this carries the risk that the deceased’s share will be ‘fragmented’ into small shares and, on the other hand, the risk of deadlock situations that can lead to a shareholders’ meeting being unable to pass resolutions. Also not to be ruled out: a lack of leadership and complete deadlock due to the death of the managing director or a combination of both if no new managing director can be appointed due to a lack of quorum.

For this reason, it is essential for the continued existence, capacity to act and success of a company that company owners and shareholders (as well as managing directors), regardless of their age, prevent the uncontrolled transfer of the company or company shares in the event of their death by means of an entrepreneur’s will.

This serves the interests of the company (financially and legally) and the interests of the employees, and helps to prevent conflicts among heirs. However, it is not only inheritance law that plays a role here. Drafting an entrepreneur’s will usually involves a complex mix of inheritance law, company law and tax law.

‘Separate’ companies from the estate

No entrepreneur is ‘just an entrepreneur’. An entrepreneur’s assets usually also include private assets that have no connection to the business, such as private residential property, private investments, etc.

In this respect, it makes sense to treat the ‘private estate’ and the company differently in the last will and testament and to exclude the company from the remaining estate, so to speak. While joint ownership may be the right solution for purely private assets in individual cases, this is generally not the case for companies (or shares in companies): here, joint ownership should be avoided or, at the very least, clear arrangements should be made!

If, despite the company’s involvement, the creation of a community of heirs is desired in an individual case, it is advisable to order the execution of a will in the entrepreneur’s will, which should provide clear and, in case of doubt, detailed guidelines on the tasks and powers of the executor. However, a community of heirs under the execution of a will is still not a permanent solution.

In order to ‘separate’ the company from the rest of the estate, various (inheritance) law instruments can be useful in an entrepreneur’s will, for example the following legal instruments within the framework of an entrepreneur’s will.

• Bequest (Sections 2147 et seq. BGB): This allows the entrepreneur to bequeath the company or his share in the company to a person by last will and testament without that person also becoming an heir (to the remaining assets). For example, persons who have no connection to the ‘private estate’ can be defined as company successors. It should be noted that relatives are entitled to compulsory portions of the estate under inheritance law. In this context, there is a particular risk that the heirs (spouse/children) will reject what is intended for them and/or assert their compulsory portion (Sections 2303 et seq. BGB). This compulsory portion is a payment claim based on the family relationship and the value of the total estate, which may exceed the available liquidity and thus jeopardise the existence of the company.

• Advance bequest (Section 2150 of the German Civil Code): In this case, the testator stipulates in their will that a specific heir should receive the company or share of the company in addition to their inheritance. The value of this legacy is not counted towards their inheritance. This allows the ‘designated successor’ to continue running the company without having to make compensation payments to other heirs and, on balance, to receive more than the other heirs. However, the issue of compulsory portions can also become a challenge in this arrangement.

• Division order (Section 2048 of the German Civil Code (BGB)): This allows an entrepreneur to divide the entire estate among the heirs, i.e. to define who is to receive which assets from the estate (e.g. company shares, real estate) as sole owner. This ‘only’ regulates the distribution of the estate. Unlike in the case of an advance legacy, in the case of division orders, the value of the ‘allocated’ part of the estate is credited to the respective inheritance share. This can therefore lead to compensation claims among the heirs if the distribution was too ‘unequal’. In addition to considerable disputes between the heirs about the value of the company, this can also lead to liquidity problems that threaten the existence of the company.

• Disinheritance (Sections 1937 and 1938 BGB): This allows testators to exclude individual/all legal heirs from succession, so that only one person becomes the heir (‘sole heir’) and thus the successor to the business. In this case, however, the disinherited persons are still entitled to a compulsory portion, which can place a burden on the heirs (and thus indirectly on the company) and jeopardise the company.

Tip! In addition to tax implications, compulsory inheritance claims must always be taken into account separately when planning succession and drafting an entrepreneur’s will. In total, compulsory portion claims can trigger a payment obligation of up to half of the total value of the estate (in some cases even taking into account the value of lifetime gifts). If the successor to the business is subject to such a payment obligation, they will usually have to draw on the liquidity of the business, although this is often not sufficient to meet the claims.

The legal instruments best suited to regulating company succession in the event of death in an entrepreneur’s will always depend heavily on the individual case, e.g. on the family constellation and financial circumstances (including those outside the company).

However, when planning business succession, the following generally applies: if an entrepreneur’s will leads to an imbalance (in terms of value) among the heirs designated by law, clear arrangements should be made/agreed upon during the entrepreneur’s lifetime – in principle, also with the persons who benefit or do not benefit from the provisions of the entrepreneur’s will.

In particular, clear planning and regulations are necessary to prevent, in a legally secure manner, the death of the entrepreneur from giving rise to compulsory portion claims that exceed the liquidity of the estate/company. The safest way is for the entrepreneur to conclude compulsory portion waiver agreements with the potential beneficiaries during his or her lifetime, which in practice is usually done in return for a gift/payment to the waiving party.

Individual succession planning and its specific structure (entrepreneur’s will, compulsory portion waiver agreements, compensation agreements, etc.) always depend heavily on the personal situation of the entrepreneur’s family, the legal form of the company and individual preferences (e.g. with regard to the continuation/termination of the company after death). Tax issues are, of course, also a cornerstone of successful business succession, as inheritance tax in particular can lead to liquidity bottlenecks that threaten the existence of the business.

Interim conclusion

An entrepreneur’s will is indispensable for entrepreneurs/shareholders in order to ensure the continued existence, stability and capacity to act of a company in the event of death and to avoid lengthy and costly inheritance disputes between the parties involved.

This is because statutory succession entails considerable risks for the company and its workforce. A well-thought-out entrepreneur’s will, on the other hand, enables controlled company succession in accordance with individual wishes and tailored to the specific circumstances of each case.
The exact form of an entrepreneur’s will depends on individual circumstances (in particular family circumstances, asset structure and company form).

However, what all situations have in common is that timely and professional planning of company succession through an entrepreneur’s will is crucial for successful succession in the event of death. In the case of company shareholdings, it is also very important that the provisions in the entrepreneur’s will and the articles of association are coordinated.

In part II of this article, you will learn more about this.

• what should be regulated in an entrepreneur’s will,
• which form of will is fundamentally unsuitable for an entrepreneur’s will,
• what important role company law can play in an entrepreneur’s will, and
• which tax law provisions can be important for business succession in the event of death.

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