A buy-and-sell insurance arrangement protects the partners, members or shareholders of a business from threats to the continuity of the operation when one of them dies, becomes disabled or retires. The agreement is that, when one of the members die, their stake in the business is sold to the remaining members. Buy-and-sell insurance is the manner with which this arrangement is normally funded.
What often happens when a partner dies is that their stake in the business has to be liquidated to satisfy cash needs in the deceased Estate. This means the business may have to be sold to satisfy these cash needs. The remaining partners could also be stuck with an heir or new business partner who does not share their work ethic or vision of where the business should go.
A buy-and-sell arrangement, funded by insurance, is a great solution to the problem because:
* cash is available immediately when it is needed
* the heirs know exactly what their share of the business is worth
* the surviving partners immediately own the whole business
* there is no need to borrow
* the business’ capital resources are not drained
The arrangement is normally set up by each partner figuring out how much their stake in the business is worth. The other partners then take out insurance for that amount, according to their partnership percentages.
One drawback is that premiums paid are generally not tax deductible. Setting up the arrangement may be complicated, because provision has to be made for possible Estate Duty and other taxes that have to be paid. It is best to seek professional advice from a licensed Financial Advisor to ensure that the arrangement is concluded correctly.
A buy-and-sell arrangement is an excellent way for partners to ensure the continuity of their business and provide certainty to their family members if they were to pass away or become disabled. Any small business will do well to think of setting up this arrangement.