Andrew Niblock, corporate and commercial lawyer at Keystone Law, on the importance of signing contracts with family members who invest in your business.
Why sign contracts with family investors?
It provides certainty - both parties understand in advance how the money will be used and repaid. Circumstances can change - particularly in families. A proper legal framework can help prevent future misunderstandings.
What's a 'promissory note'?
It's a legal document that serves as an IOU between lender and borrower. It contains a written promise by the borrower to repay a definite sum of money to the lender either at any time on demand or on a specified date.
Can I draw up an agreement?
The main problem with preparing an agreement without the input of a qualified solicitor is the document can be ambiguous. The solicitor's role is to take an objective and professional view of the circumstances and to prepare an agreement that's clear and accounts for all eventualities. This reduces the chance of dispute.
How can I reduce the amount I have to pay a solicitor?
You can write down what has been agreed between the parties, which might save time when taking instructions. However, often it's simpler for the solicitor to take the instructions and prepare the document from scratch rather than trying to amend an agreement prepared by the parties themselves.
What are the likely costs?
Depends what's required. Law firms understand that people need clarity when discussing legal fees - they don't want unwelcome surprises. For this reason, it is advisable to ask your solicitor if you can agree fixed fees in advance.
What are the key considerations when drawing up an investment agreement?
Firstly, is the business being run by a sole trader, partnership or limited company? Is the investment a loan or will the investor be given an equity stake in the business in return for their investment. If the investment is a loan - will it be secured? If so, what assets will be used? The question of interest or return on investment needs to be addressed. Can the investor claim Enterprise Investment Scheme tax relief? What happens if repayments are late - or are not made at all? What happens if the investor dies and does any loan become immediately repayable to his or her estate?
Does the signing of such agreements need to be witnessed?
A signature to an agreement only needs to be witnessed if the document is signed as a deed. The document should indicate if it must be signed as a deed just before the signature clause. If a witness is required, it can be anyone who is 18-years-old or more. It's usually safer to ensure the witness is not one of the other parties to the deed.
What happens if the business fails?
The chance that the business might fail is a key reason why it's vital to ensure a proper investment agreement is in place. If the investor has taken shares in a company in exchange for the investment, they will only be repaid if there's money left once all the creditors have been paid. If it's a loan and is secured, for example, by a mortgage on the borrower's house, then the mortgage can be called in. The important thing is the parties are properly advised about potential outcomes if the business fails, before any investment is made.
My relative needs their money back immediately, but I can't afford to pay them…
Whether the amount invested must be repaid on demand will depend on the type of investment. If it's a loan, the loan agreement should state the repayment dates and provided you meet the repayments, your relation should not be able to demand the money back immediately. If they've taken equity in your company, they are treated like any other shareholder and will have to sell their shares to get their money.