A
buy-sell agreement is a legally binding contract which
protects the interests of the company’s owners and
permits the business to continue in the event of the death,
disability, or retirement of a business owner. A buy-sell
agreement, commonly referred to as buy-sell arrangement,
is drafted by an attorney and can be implemented with all
forms of companies including, partnerships, limited liability
companies, and corporations. A buy-sell plan can be thought
of as a written agreement to help a business navigate a
successful business transition.  Key
Provisions of a Buy-Sell Agreement
Buy-Sell
Agreement Advantages
Sample
Buy-Sell Agreement
Key Provisions of a Buy-Sell Agreement
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Stipulates
that if an owner plans to dispose of their business
interest that they must first offer it for sale to
remaining owners or the business itself. |
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The purchase price of a business owner’s interest
is based upon a pre-determined formula to be used at
the time of death or disability. This allows a definitive
price to be set for the ownership interest. |
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Identifies the seller and mandates that he must sell
his interest and also identifies the buyer and mandates
that she must buy the interest when made available. |
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The agreement is based on a current business valuation
which establishes the fair market value of the company
and is the basis of the price and terms of sale when
applicable. |
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Funding mechanisms such as life insurance and disability
income insurance are noted. |
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Specific instructions for handling the dissolution
of the business. |
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Valid reasons for termination of the agreement. |
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A systematic process to update business valuations
and adjust insurance coverages should be outlined. |
For more specific details see
the Sample
Buy-Sell Agreement.
Buy-Sell Agreement Advantages
| 1. |
Provides a smooth transition and continuity
of management and ownership to the remaining business
owners. |
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Creates an instant market for a business interest that
may not otherwise be saleable. |
| 3. |
Establishes a fair market valuation for federal estate
tax purposes that is binding on the IRS. |
| 4. |
Spells put the terms of payment and is easily funded
with life insurance and disability insurance, if desirable. |
| 5. |
Provides the liquidity to the retiring owner or to
his estate in the event of death. |
| 6. |
Peace of mind and security for the business, the business
owner’s and their families. |
Buy-Sell Agreement Funding
Options
Companies have several options to fund a buy-sell agreement
in the event of a disability, death or retirement of a business
owner:
Business Owner’s Personal Funds: Most business owners
reinvest their money back into their businesses and therefore
do not maintain large sums of available liquid assets on
hand.
Finance the Purchase Out of
Company Cash Flows: Also known
as self insuring, this approach is equivalent to doing no
planning at all. If a business owner dies or becomes disabled,
in most cases, cash flows will decrease. Just when the need
arises, the cash is not available to fund the terms of the
agreement.
The Business Can Borrow the
Funds: The business may be able
to borrow the funds from a lender to fulfill the terms of
the buy-sell agreement. The business can then pay back the
lender over time thereby reducing the immediate financial
impact. However, the loss of a key business owner will likely
hurt cash flows and may also affect the borrowing ability
of the company. Additionally, the additional interest expense
may be excessive and burdensome over time.
Establish a Business Sinking
Fund: Allows a company to accumulate
the dollars needed over time. However, there are serious
consequences if a business owner dies prematurely or sustains
a disabling injury. In this case, the sinking fund would
like be insufficient to honor the terms of the agreement.
Installment Sale or Payments: Similar to borrowing the funds
except that the departing business owner or their heirs (seller)
finances the buyer. The outgoing owner or her heirs must
depend on the business to make principal and interest payments.
If the business fails installment payments may cease.
Life insurance and Disability
Income Insurance on the Owners: By far the easiest and most economical way to fund a buy-sell
agreement is with life and disability insurance. Both life
and disability income insurance can provide the liquidity
to fund a buy-sell agreement at the exact time the funds
are needed. If a covered business owner dies, a life insurance
policy can guarantee that the liquid funds will be available
to fulfill the terms of the agreement. At the same time,
life insurance policies can also grow cash value that can
be used to purchase a retiring partner’s interest.
Finally, a disability buy-out policy can be secured to guarantee
that funds will be readily available in the event of a long
term disability to a business owner. Life and disability
insurance policies are the perfect vehicles to cover potential
business succession risks.
Click Here For Your Instant Buy-Sell Life Insurance Quote
Request a Disability Buy-Out Quote
For Additional Buy-Sell Information See:
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