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The Advantage of Buy-Sell Agreements

When a business partner unexpectedly dies, a myriad of problems may arise. Buy-sell agreements funded by life insurance are put into place to avoid common pitfalls and satisfy all parties concerned.

When a business partner dies, the surviving partners want to retain control of the practice without interference from the deceased partner’s heirs and they want a prompt transfer of the former partner’s business share at a fair price. They also want to preserve the support of staff members, maintain the confidence of creditors and of course, the loyalty of customers.

The deceased partner’s heirs on the other hand, want to hold onto some financial security after their loss and either retain a share of the business interest or sell it at a favorable price. It is also in their best interest to promptly settle estate matters and address tax requirements.

Unfortunately without insurance and/or an agreement in place, conflicts and possibly litigation may result between the parties. Other common challenges include operational challenges, estate settlement delays and negative impact on staff and customers’ confidence. In the worst case scenario, a business itself could be at risk.

The purpose of a buy-sell agreement is to assure a smooth transition following an owner’s death. The agreement establishes a fair price for the business at the time of the agreement by either using a professional appraiser (that is updated every five years) or establishing a valuation formula. The terms of the sale are clearly set out and previously agreed upon, so that if one of the owners does die, the deceased partner’s interest is purchased automatically through the funds provided in the life insurance policy. In turn, the deceased’s heirs are obligated to sell their share of the business interest.

There are two basic types of buy-sell agreements. Under a cross-purchase buy-sell agreement, each business owner individually agrees to buy part of a deceased owner’s interest. Under an entity buy-sell agreement, the business itself, not the individual owners, buys the deceased partner’s share.

Which type of agreement is put into place depends on the characteristics of the business. Factors such as the number of partners, the disparity in age between the partners, the need for reserve cash and of course, the wishes of the partners themselves determine the details.

Regardless of the type of agreement that is put into place, the result is the same – an orderly transition, and the assurance of the ongoing viability of the business in the eyes of employees and customers alike.

Asset MarketPlace advisors provide viable buy-sell agreements funding solutions. Contact us for best-in-practice business and personal insurance solutions.