Bellock & Coogan  | Oak Brook, IL
915 Harger Road, Suite 240 
Oak Brook, Illinois 60523 
Phone: (630) 572-0900 
Fax: (630) 572-0905
  • Home
  • Attorney Profiles
    • Charles J. Bellock
    • Kimberly S. Coogan
    • Derek M. Johnson
    • Eric J. Scott
  • Estate Planning
  • Estate & Trust Administration
  • Business Services
  • Articles
  • Contact
  • Directions

What Does the Future Hold for Your Business? Funding the Buyout Under the Buy-Sell Agreement

2/25/2013

 
by Kim Coogan
Part 4 of a 5 Part Series

You know you need to establish a succession plan for your business; you've identified and continue to develop individuals to whom the management, executive decision-making, and ownership of your business will pass. You recognize the importance of documenting your intentions for the future ownership of your business using a "buy-sell agreement."

Now you have to ask yourself the not-so-simple question, "If I pass away or retire and my interest is sold, how will I, or my family, be paid?" Or, "If my partner dies or wants out, how will I pay him or her, or his or her family, if I have to buy out his or her interest?" The answers to these questions will be different if the buyout occurs during lifetime as opposed to upon the death of an owner.

The buy-sell agreement should set forth the terms of payment of the purchase price, which will be determined in accordance with the valuation provisions of the agreement. In the event of the departure, retirement, disability or other lifetime buyout event of an owner, typically the agreement will allow for a promissory note evidencing the obligation to pay the purchase price over time. The term of the note may be principal and interest payments over 5, 10, or more years. The interest rate will be set at the time of the buyout, based on an index, e.g. prime rate, or the applicable federal rate, as published by a specific source. The note will most likely be secured by the pledge of the business interests being purchased.

Upon the death of an owner, the buyout may be funded either in the same manner as a lifetime buyout, or more commonly, with the proceeds from a life insurance policy on the life of the deceased owner. If the buy-sell agreement is a redemption agreement, whereby the business entity buys out the interest of the deceased owner, then the business entity will own the life insurance policies on the lives of the business owners. Upon the death of an owner, the business entity will pay out the agreed purchase price to the business owner's estate, or trust, depending on how the business interests were owned. The business interests will be transferred by the deceased owner's successor in interest to the business entity.

If the buyout is a cross purchase, then the surviving business owners will pay the agreed purchase price to the deceased owner's successor in interest. If there are two owners, then each would own a life insurance policy on the life of the other. In the case of a business with multiple owners, insurance can become more complicated. For example, with three owners, each would have to buy life insurance on two other owners. In total, there would be six life insurance policies. This can become somewhat cumbersome. An alternative might be a trusteed buy-sell agreement, whereby one life insurance policy on each of the owners is owned by an escrow agent (or "trustee"). Upon the death of an owner, the trustee collects and pays out the insurance proceeds to the deceased owner's successor in interest in exchange for the shares in the business. The escrow agent then allocates the shares among the surviving owners.

Congratulations! You've consulted with your professional advisors; you've done the hard work of considering who will carry on your vision for your business after you step away from it; you've laid the groundwork for management, leadership and ownership succession; and you've documented all of this in a well-written buy-sell agreement. You've obtained the proper life insurance or other mechanism to fund a potential buyout. You are doing great! But your work isn't done. It's a work in progress. You should revisit your business succession plan annually, and re-evaluate your management and leadership to ensure your plan is on track, and make any necessary adjustments. Your attorney, accountant, and insurance professional should work together with you to make sure your plan is the best it can be for you and your business.


Comments are closed.

    Archives

    January 2020
    January 2019
    October 2018
    June 2018
    December 2017
    July 2014
    February 2014
    February 2013
    January 2013
    September 2012
    August 2012

    Categories

    All
    Business Succession
    Buy Sell Agreement
    Buy-Sell Agreement
    Charitable Giving
    Estate Administration
    Estate Planning
    Estate Tax
    Gift Tax

    RSS Feed

The information you obtain at this site is not, nor is it intended to be, legal advice. You should consult an attorney for individual advice regarding your own situation.
Bellock & Coogan, Ltd.
915 Harger Road, Suite 240 
Oak Brook, Illinois 60523 




Phone: (630) 572-0900 
Fax: (630) 572-0905
Email


Copyright © 2018 by Bellock & Coogan, Ltd.