Why Consider A Buy-Sell Agreement

What Is an Entity-Purchase Agreement?

It is a document intended to satisfy the stipulations of a buy-sell agreement prepared by a company. This is a type of business continuity planning commonly used by partnerships. The plan usually involves the company taking out a life insurance policy (as the owner, usually a term policy) on each partner in the amount equal to the value* of their share of the business (naming the business as the beneficiary).

This is in comparison to the other type of buy-sell agreement, the cross-purchase agreement, which involves each partner purchasing a policy on each of the other partners in the business (naming themselves as the beneficiary). Which depending on the number of partners can get very expensive and complex.

In the case of the untimely death of a partner the sum collected from the policy is then used to buy out the respective partner’s share of the business. This in term allows the company to continue operations without business disruptions. The agreement can also be referred to as a partnership liquidation plan.

Given the types of life events that can occur some of these agreements take it a step further to include various triggering events. Such that, in the event of incapacitation, retirement, divorce, bankruptcy or conviction of a crime the partner’s shares are to be liquidated and sold to the remaining partners. It is understandable that not all events can be funded with insurance (like disability insurance) and therefore calls for further specification on how the potential buyout or liquidation will be secured.  

Let’s keep in mind that the appeal of life insurance is that the transfer of wealth will not be subject to income tax. This type of agreement limits the risk of the forcible sale of business assets. It also provides the owners the reassurance that the value of their business interest will be passed on to their families without disruption.

 Does your current situation call for this agreement to be set in place? Have you considered having the conversation with your partners?

*the value within the agreement may have a predetermined liquidation price that needs to be updated periodically (such as the use of real estate assets), while another agreement may have valuation as determined by IRS rules.