Why Having a Buy-Sell Agreement is Important
There are several good reasons to have a buy-sell agreement – death, disability, retirement and disagreement. In the case of death, the remaining owners (shareholders) may not want to be in the business with the deceased’s heirs and likewise, the heirs may prefer to receive the value of the shares in cash. If an owner becomes disabled, the remaining shareholders may prefer to not remain in business with a non-active owner. If an owner retires, the agreement enables the business to continue as usual. Should there be an unresolveable disagreement, a buy-sell agreement enables the business to be dissolved in an orderly manner.
- Who will buy the shares
- The terms of the sale
- When the sale will occur
- The source of funding to buy the shares
- The purchase price of the shares
- How valuation differences will be handled (for example, if the amount of insurance proceeds is less than the value of the business and if the value is more than the value of the shares in which case what happens to the “extra” money)
Buy-Sell Agreement Funding
By far, the easiest and least expensive way to finance a buy-sell agreement is with insurance. In the case of a death of an owner, the proceeds from a life insurance policy can be used to buy the deceased’s interest in the business. Should an owner decide to retire, the cash value of the life insurance policy can be used to finance the buyout of the ownership interest. And in the case of disability when an owner leaves the business, a long term disability insurance policy can finance the purchase of the departing owner’s shares.
Using insurance to finance your buy-sell agreement has certain advantages:
- The life insurance policy can be held corporately or personally by individual owners/shareholders (each has their own pros and cons so speak with a knowledgeable insurance agent before deciding which route to take)
- Life insurance policies have simple structures and are easy to implement
- In the case of death, the benefit is paid quickly ensuring that the buy-sell transaction is completed in a timely manner. The surviving shareholders can use this money to buy the deceased’s shares. The structure enables the deceased shareholder’s estate to take advantage of any available capital gain exemption.
Selecting the right insurance product for your particular situation is essential to getting a good outcome but navigating through the myriad of choices can be daunting. Therefore, we suggest that the insurance agent you speak with should have experience in business continuation planning. And that’s easy, just call Jacqui McFarlane.