Business Assurance: Buy-Sell (Buyout) Agreements: What You Need to Know

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I speak a lot on business succession planning and this topic is a major part of it.

A buy-sell agreement can be referred to as a buyout option, a business will or even a business prenuptial contract. These are all, in essence, contracts so I will not speak too much to the legal semantics within these contracts but rather how they relate to financial planning and estate planning for you, the business owner.

The main idea is that your business should continue after the resignation, departure, disability or death of your business partner/s or even yourself.

The latter most are unforeseen events that carry with them massive financial implications that could potentially cripple a business, more so one that is still in its growth phase. The good news is that, coupled with insurance, you can insure against these kinds of eventualities.

What are We Buying or Selling?

This type of contract is an approach employed by business partners to divide the business share or equity of a shareholder.

The seller of the equity being considered has to be disabled, deceased, retired or have expressed interest in selling. The buy and sell agreement requires that the business share is sold according to a prearranged valuation method to either the business or the remaining members of the business.

Before the interest of a deceased partner can be sold to the business or remaining partners, the deceased’s estate must agree to sell.

Example 1

Say, for instance, you and a partner start a business together. You are both business persons or entrepreneurially inclined. Neither of your spouses plays an active role in the running of the business.

The business becomes reasonably successful and sustains the households of both yourself and your business partner. You agree that you would rather sell your equity upon the demise of either of you as your spouses may not be able to contribute meaningfully to the business.

You both fully depend on this business for your livelihood and you do not want to risk suddenly being forced to partner up with somebody who knows very little about running the business, but you also want to make sure that your loved ones would be taken care of when you can no longer provide for them.

In this event, the business will pay the spouse of the injured or deceased their due to deploy as they see fit and the surviving partner will retain control of the business.

Example 2

Perhaps you and two partners start a business and want to see to it that your families will be duly compensated in the event of either of you passing away or getting disabled.

Say, for instance, you are all equal partners owning a third of the company each, such an agreement will see the two surviving business partners each then owning half of the company.

The family of the victim of the unpleasant set of circumstances will be compensated for the interest in the business that has been bought up by the business or the surviving partners.

Example 3

Maybe you don’t have any partners but own a business that has the potential for a good succession plan like the kind I speak about in Does Your Business Have a Succession Plan? You could elect to sell your interest to your staff members or a third party through this kind of agreement.

The possibilities are endless, but the most important step is to have a business that is fluid and transferrable.

How is it Funded?

In order to ensure the availability of funds in the event of a partner’s death, the relevant parties may purchase life insurance policies on the other partners.

In the event of a death, the proceeds from the life insurance policy are used to purchase all or a portion of the deceased’s business interest, depending on the dictates of the contract.

Get a Good Contract

I am not a legal specialist by any stretch of the imagination so my advice would be that you get a reputable legal practitioner to draft a contract that will enforce what you and your business partners agree should happen in the case of any of the instances mentioned above.

This will see to it that there is no conjecture about your preferences upon death and that everybody gets to have their say beforehand so that the chances of legal delays or contestation are reduced.

Get Good Insurance

I spoke before about quality insurance in my post, Are All Insurers Essentially the Same?.

Once you have found a solid insurer ask to find out more about what they have on offer as it relates to business assurance. With a solid contract in place, the purpose of this insurance will be to finance whatever moves and changes will have to be made after the directives of the contract have been carried out. For the most part, this insurance will finance the purchasing of the shares of the injured or deceased.

Conclusion

In combination with Key Individual Assurance, every small business owner should look into Buy-Sell Agreements. These both form an integral part of Business Succession Planning.

My take on business is that it should be done to create something bigger than yourself. This kind of business is transferable, has a succession plan and could probably benefit from having a Buy-Sell Agreement in place.

You can read my post on How to Create a Business Succession Plan by clicking on this link.