FUNDING A BUY-SELL AGREEMENT WITH LIFE INSURANCE

As a partner or co-owner (private shareholder) of a business, you’ve spent years building a valuable financial interest in your company. You may have considered setting up a buy-sell agreement to ensure your surviving family a smooth sale of your business interest and are looking into funding methods. One of the first methods you should consider is life insurance. The life insurance that funds your buy-sell agreement will create a sum of money at your death that will be used to pay your family or your estate the full value of your ownership interest and ensure your business planning has been and continues to be effective.

When using life insurance with a buy-sell agreement, either the company or the individual co-owners buy life insurance policies on the lives of each co-owner (but not on themselves). If you were to die, the policy owners (the company or co-owners) receive the death benefits from the policies on your life. That money is paid to your surviving family members as payment for your interest in the business. If all goes well, your family gets a sum of cash they can use to help sustain them after your death, and the company has ensured its continuity.

Advantages of using life insurance:

• Life insurance creates a lump sum of cash to fund the buy-sell agreement at death
• Life insurance proceeds are usually paid quickly after your death, ensuring that the buy-sell transaction can be settled quickly
• Life insurance proceeds are generally income tax free; a C corporation may be subject to the alternative minimum tax (AMT)
• If sufficient cash values have built up within the policies, the funds can be accessed to purchase your business interest following your retirement or disability

In an entity purchase buy-sell agreement, the business itself buys separate life insurance policies on the lives of each of the co-owners. The business usually pays the annual premiums and is the owner and beneficiary of the policies.

In a cross purchase buy-sell agreement, each co-owner buys a life insurance policy on each of the other co-owners. Each co-owner usually pays the annual premiums on the policies they own and are the beneficiaries of the policies. If your company has a large number of co-owners, multiple policies must be purchased by each co-owner.

A wait and see (or hybrid) buy-sell agreement allows you to combine features from both the entity purchase and cross purchase models. The business can buy policies on each co-owner, the individual co-owners can buy policies on each other, or a mixture of both methods can be used. These options help owners be able to make business planning decisions more easily.

The amount of insurance coverage on your life should equal the value of your ownership interest. Then,when you die, there will be enough cash from the policy proceeds to pay your family or estate in full for your share of the business. But if all that is affordable is insurance coverage for a portion of your interest, you might want to go ahead and fund that amount. Later, the company may be able to increase the amount of insurance or use additional funding methods. In the meantime, the agreement should specify how your family or estate will be paid.

Starting and growing a business usually involves a fair amount of sweat and sacrifice. And even though it is not really fun doing it, having a succession plan it is essential to ensure the success of business planning in the future.

A succession plan is essentially an exit strategy, ideally one that ensures that the current owner of a business, or that person’s heirs, will be able to cash out at a fair value under certain circumstances.

Succession plans are also designed to ensure that businesses survive and prosper when their current leaders are no longer in charge—because they either retired, met an untimely death or suddenly became unable to work.

Group Life

Group STD/LTD

Business planning just got easier. Call The HRB Group for help with your business today!