Disability clause important part of shareholders’ agreement

A well-drafted shareholders’ agreement should include provisions specifying what will happen in the event of disability, says Toronto business lawyer Anton Katz.

If there are no buyout rights or obligations, then nothing would happen to the ownership of the shares if a shareholder becomes disabled, says Katz, principal of Anton M. Katz Barrister & Solicitor.

“If they are a passive shareholder, it may be fine,” he tells AdvocateDaily.com. “However, if the shareholder is active and unable to perform their duties to the corporation, then a lack of a disability clause is problematic.”

For example, if a corporation is counting on the shareholder to be in the office five days a week and secure five new leads a month, then the modus operandi and value of the corporation is in jeopardy, Katz says.

“The language contained within disability clauses is important because typically shareholders are making different contributions — whether through their labour or financial contributions,” he says. “If a disabled party is no longer able to contribute as they once were, it might be prudent to end the relationship.”

He says disability clauses usually include an option or obligation on the part of the corporation to buy that person’s shares.

“If it’s an option — as the name suggests — the corporation may be financially unable or unwilling for whatever reason to buy them out, in which case they remain a shareholder. While that might be beneficial for the corporation, it may not be ideal for the disabled shareholder because he or she may have a sudden need for cash,” Katz says.

“If it’s an obligation, conversely the corporation must buy out the shareholder, who may receive cash up front with the remaining money doled out over time. While this may be good for the shareholder, it could strain the cash flow of the corporation,” he notes.

A well-drafted shareholders’ agreement will also set out when a shareholder is deemed to be disabled.

“One definition is based on a computation of time. If the shareholder is unable to work six months in a row, for example, he or she would be considered disabled,” Katz says.

Another way of defining disability, he says, is if a medical practitioner determines that the person can no longer devote the time and attention to the affairs of the corporation.

“Some disability clauses will state that for the first six months, for example, the shareholder will continue to receive their regular salary but if they are still disabled after that period of time, then the shares are subject to a purchase — whether it’s an option or an obligation,” Katz says.

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