Planning for the loss of a business owner or partner is crucial to ensuring the continuity of your business and protecting the financial security of your family and the families of each partner or co-owner.
To protect your business, your loved ones and your co-owners or partners, you can implement what is known as a buy sell agreement, which specifies what will happen to the interests of a deceased owner, partner or shareholder.
Buy sell agreement helps preserves control and value of a business at the death of one of the owners/partners.
These agreements provide that the estate of the deceased owner will be paid a fair value for his/her interest and that the surviving owners will maintain control and ownership of the business. Life Insurance on the owners can be a source of money to fund this agreements.
The structure of the buyout and Life insurance funding should be tailored to the objectives of the business owners.
There are three main methods to fund these types of agreements:
Each shareholder purchases a life insurance policy on the life of the other shareholder(s) and names himself or herself as beneficiary. Subsequently, the shareholders and company complete a Buy/Sell Agreement that requires the surviving shareholder(s) to purchase the shares of the deceased shareholder, usually at fair market value.
Upon death of a shareholder, the surviving shareholder(s) uses the insurance proceeds paid from the deceased’s life insurance policy to purchase the shares from the deceased shareholder’s estate.
Promissory Note Method
With this method, the operating company purchases a life insurance policy on the life of each shareholder. The company is named as the beneficiary of the policies and a Buy/Sell Agreement is put in place requiring the surviving shareholder(s) to purchase the shares of the deceased shareholder at fair market value. Upon the death of one of the shareholders, the company receives the insurance benefit and pays the proceeds to the surviving shareholder(s) as a capital dividend, allowing them to honor the promissory note.
Corporate Redemption Method
The operating company purchases a life insurance policy on the life of each shareholder, and the company is named the beneficiary of each of the policies. This method requires the company to purchase and cancel (or redeem) the shares of the deceased shareholder.
No matter what kind of business you are involved in—a corporation, a partnership, an LLC, or even a proprietorship you should strongly consider a buy-sell agreement.
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