If Your Business Has More than One Owner, You May Need a Buy-Sell Agreement
What would happen to your business if one of your co-owners wanted to give up the business for retirement or another reason? What if that person were to become seriously disabled or died? If he or she got divorced or went bankrupt? Would your business survive? How would you value your ex-partners shares? How would you pay for them?A buy-sell agreement is a contract between two or more owners of a business setting out the conditions under which transfer of ownership will take place. It can be triggered by a number of events, which will be specified in the agreement, such as: an offers from an outsider to purchase the partners interest in the company a divorce settlement in which a partners ex-spouse is due to receive an ownership interest in the company the foreclosure of debt secured by the ownership interest or the filing of personal bankruptcy an owners disability, death or incapacityIn addition to specifying the trigger events, the buy-sell agreement will also specify what will happen when a triggering event takes placefor example, the remaining partners will buy the shares of the deceased partner. Finally, the agreement will specify a price for the shares or a formula to determine a price.Having a buy-sell agreement in place offers numerous benefits: it can enable the business to continue with no disruption or forced sale it can help prevent unwanted ownership (such as an ex-spouse) it can help assure customers, creditors and employees of business continuity it can help provide heirs with a fair price and fast settlement of the estate it can help provide a market for owners interest in the business and a fair market value for estate tax purposes.Funding the Buy-Sell AgreementA common way of funding the buy-sell agreement is with life insurance, which is a way to make sure the money will be there when it is needed. There are several ways to structure the arrangement. In a cross-purchase agreement, each stockholder owns and is a beneficiary of a policy on the life of every other stockholder. When one owner dies, the remaining owners receive the insurance proceeds, which they use to purchase the former owners business interest. The surviving owners then own 100% of the business. The main disadvantage of the cross-purchase plan is that it can be cumbersome and expensive if more than two parties are involved. In a stock redemption (also known as an entity purchase) arrangement, the business owns and is the beneficiary of the insurance. When a triggering event occurs, the business pays the former owner, or his heirs, for their outstanding stock from the proceeds of the policy. The stock is then retired, giving the remaining owners 100% ownership interest in the business. In some cases, it may be advantageous to have a trustee own the insurance and disburse it according to the terms of the buy-sell agreement. Having a trustee can lessen the number of required policies and ensure that premiums are paid. The main disadvantage of the entity purchase agreement is that the remaining owners do not receive a step-up basis for their ownership interest in the company. Review Your PlanThere are advantages and disadvantages to each type of plan. Your financial professional can help you determine the proper plan for your business. If you currently have a buy-sell agreement, you should review it periodically, especially in light of pending tax law changes, with your financial professional to make sure the coverage is still sufficient for the current value of the business.Jeffrey Apps & Tracy Tutag offer securities and investment advisory services through AXA Advisors, LLC (member NASD, SIPC) 1290 Avenue of the Americas, New York, NY 212-314-4600 and offers annuity and insurance products through an insurancebrokerage affiliate, AXA Network, LLC and its subsidiaries. They can be reached locally at 926.0601 or email@example.comVail Colorado
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