BUSINESS SUCCESSION PLANNING AND BUY-SELL AGREEMENTS
A necessary element of any solid business plan is arranging for succession planning in the event of the death, disability or resignation of one of the owners of the business. This transfer of ownership is typically arranged through a business attorney, often in consultation with the business’s accountant and the owners’ financial planner(s). A written agreement, typically called a Buy-Sell Agreement (or a business continuation agreement) is put into place so that the surviving owner is required to purchase the ownership interest from the deceased owner’s survivors (typically a spouse). In the same agreement, the survivor agrees to sell any interest he may inherit in the deceased owner’s interest in the business at a previously agreed upon price (or formula for determining the price). If one of the owners dies, the surviving owners may secure ownership of the company from the deceased owner’s survivors and the survivors are paid a fair market value for their ownership interest in the company. A similar agreement is used for a transfer of ownership interest in the event of the disability of an active owner.
Ideally, a Buy-Sell Agreement is created at the time of businesses formation and the owners would agree upon the “triggering events” for it applicability, including death, disability, or resignation. The Buy-Sell Agreement will also spell out the method for valuing the business which is often a source of disagreement and costly litigation.
Another commonly used agreement to address the transfer of ownership is a “Redemption Agreement”. This involves an agreement whereby the company may purchase (redeem) a deceased owner’s interest in the company, usually with the proceeds of life insurance purchased and owned by the company. The life insurance proceeds are paid (usually tax-free) to the company upon the death of the deceased owner. The deceased owner’s survivors then use the proceeds (typically income tax free) as needed and are separated from the company. A redemption agreement is not advisable in certain circumstances. For example, it may not be advisable for a company at high risk of insolvency as the life insurance proceeds may be treated as general asset of the company and subject to creditors and not available to redeem the deceased owner’s interest. In addition, there is little or no tax advantage to the remaining owner(s) if the deceased owner’s interest is redeemed. When there are significant tax implications, the owners should consider entering into a type of Buy-Sell Agreement known as a “Cross-Purchase Agreement”. It differs from a “Redemption Agreement” in that, upon the death of an owner, the remaining owner, rather than the company, will buy the shares from the deceased owner’s survivors. Accordingly, the remaining owner becomes the recipient of the proceeds of the life insurance policy, which is typically used to pay the deceased owner’s survivors for the deceased owner’s interest in the company, often in a tax-free transaction.
At Bacon Flaherty we work with business owners to maximize value, minimize disruption and avoid the pain and cost of litigation by helping to devise a contingency exit strategy prior to any events likely to trigger a change in ownership.
Serving Canton Braintree, Randolph, Quincy as well as other cities and towns in Massachusetts and Rhode Island with convenient law offices in Randolph, and Hanover, Massachusetts.