A Primer on Buy-Sell Agreements and Buy-Sell Insurance

Two people sit at a desk discussing buy-sell agreements

If you are a co-owner or a partner in a small business, you may be considering a buy-sell agreement or a buy-sell insurance policy to navigate the succession of your business. In this article, we’ll explain the key points of both of these enforceable legal contracts.

Important note: This article should not be construed as legal or financial advice. It’s imperative that you speak with an attorney, accountant, and financial planner who can help you navigate your succession and prepare legal documents that suit your specific circumstances and goals.


What is a buy-sell agreement?

A buy-sell agreement can help you and your partner(s) ensure that any exiting owner’s shares cannot be sold or transferred to another party. These agreements most often come into play when an owner dies, files for divorce, files for bankruptcy relief, becomes incapacitated, or is terminated from his or her role with the company.

When one of these triggering events occurs, a buy-sell agreement can give the remaining business owner(s) the right to buy the exiting owner’s interest. Some agreements take it a step further, requiring the remaining owners to purchase the exiting owner’s interest to prevent anyone outside of the company from buying or inheriting a piece of the business.

Your business’s buy-sell agreement could be a stand-alone contract, or it might be included in your operating agreement, partnership agreement, shareholder agreement, or other business agreement. The terms of these agreements, which will include how to value the exiting owner’s interest at the time of the transfer, can be set to suit the preferences of you and your partner(s). Your attorney can help you draft an agreement with those terms in mind.

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Read: Every Small Business Needs an Attorney. Here’s Why.


How does life insurance come into play with a buy-sell agreement?

The remaining owner(s) of your business may use personal funds to purchase the exiting owner’s interest. When the cause of the owner’s exit is death, many partners and co-owners find that it’s useful to use a life insurance policy to fund all or a portion of that purchase.

The use of life insurance policies to purchase a deceased owner’s interest in a company is not without complications. One common stumbling block occurs when the owner of the life insurance policy that’ll be used in this agreement isn’t titled as the party who has the right to purchase the deceased owner’s shares.

For example, suppose the buy-sell agreement states that the entity has the right to purchase a deceased owner’s interest. In that case, the company should own and be the sole beneficiary of the life insurance policy. On the other hand, if the remaining owners have the right to purchase the interest in their personal names, each owner would purchase a life insurance policy for each of the company owners, naming himself or herself as the beneficiary.


What are the benefits of using life insurance policies in this way?

Through life insurance, beneficiaries can gain immediate access to funds to purchase a deceased owner’s interest, and often, the death benefits from a life insurance policy are income-tax-free.

Provided that the life insurance payout is equal to or greater than the owner’s interest in the business, beneficiaries can avoid the lengthy and costly process of taking out interest-bearing loans or securing other forms of financing to cover the full value of a departing owner’s interest. And while the remaining owner(s) may pay premiums on a life insurance policy, the premium will likely be substantially lower than the total cost of a loan or another form of -financing.


What about the risks?

There could be financial risks associated with using this method to fund a buy-sell agreement. It’s important to speak with an attorney, an accountant, and a financial planner about the best way to fund a buy-sell agreement and use insurance policies based on your unique situation.

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Where can I attain a life insurance policy?

Your current business insurance agent may have a recommendation. However, many business owners use one of these online platforms to set up life insurance policies:

  • Haven Life. Haven Life offers an assortment of life insurance products issued by MassMutual or its subsidiary C.M. Life. Their no pressure, no upselling plans are backed by award-winning customer service and support.
  • Sproutt. Sproutt is an online life insurance platform that rewards policyholders for their lifestyle choices. This service offers three kinds of life insurance that may suit the needs of your business.
  • Fabric. Fabric offers life insurance and accidental death insurance policies through Vantis Life, wholly owned by Penn Mutual. Explore their options to find policies that may work for your business.


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