Stock Transfer Restrictions: How Much Can You Limit?

When deciding upon issuing stocks, there are many considerations to take into account. These include the classes of stock to issue, as well as voting rights. But one often overlooked stock character is the types of restrictions to place on them. Many corporations wish to see that their shareholders remain stable and predictable. Therefore, they place stock restrictions to prevent the stocks from being freely alienable. However, these stock transfer restrictions cannot be freely placed nor can they be limitless in nature. Therefore, when issuing stock transfer restrictions, corporations must know the limits they can place.

Courts look to whether or not stock transfer restrictions are reasonable. This is a factor-driven test, and there is no definitive, exhaustive list of factors courts will look to in determining whether or not stock transfer restrictions are valid. One thing is certain: courts will strike down any clauses that seek to completely eliminate the right of a shareholder to transfer stocks.

Once a court determines whether or not a stock transfer restriction is reasonable, it will look to whether or not the stockholder is bound by the restriction. A court will look to whether or not they had notification of the restriction, or whether they were manipulated into purchasing stocks that include such restrictions. If a purchaser knows of the restriction, he will be bound by it. Again, knowledge is based on a list of factors, and there is no definitive way of determining whether or not there was knowledge on behalf of the shareholder. Knowledge may be constructive, where the restriction is noticeable but the purchaser refused to acknowledge it, or actual, where the purchaser had previously acknowledged knowing of the restriction.

Stock transfer restrictions are permissible. However, restrictions cannot be absolute. Whether or not a stock transfer restriction is reasonable, and therefore permissible, is often a question for the courts. If you are interested in issuing stocks and wish to include stock transfer restrictions, perhaps it is in your best interest to talk to the right legal team with years of experience assisting business owners with a myriad of needs. Call the Trembly Law Firm at (305) 431-5678 today to schedule a consultation.