What Type of Buy-Sell Plan Is Best for You and Your Business?
There are distinct advantages and disadvantages to each type of buy-sell plan. Changing personal and business circumstances can make it difficult to select the most appropriate plan.
The "wait-and-see" buy-sell plan can provide a solution to this dilemma. With this flexible buy-sell plan variation, the decision as to whether the business or the surviving owners will purchase a deceased owner's business interest is deferred until after the owner's death, at which time the "wait-and-see" buy-sell agreement generally provides for the following:
- The business has the first option to purchase all or a portion of the deceased owner's business interest within a specified number of days.
- If the business does not fully exercise its option, the surviving owners have the option to purchase all or the remaining balance of the deceased owner's business interest within a specified number of days.
- Finally, the business is required to purchase any remaining balance of the deceased owner's business interest not previously purchased by the business or surviving owners.
There are several ways in which a "wait-and-see" buy-sell plan can be funded with life insurance:
- The business can purchase life insurance on all business owners and, if a cross purchase approach is ultimately implemented, it can loan the proceeds to the surviving owners.
- The business owners can purchase life insurance on each other, as in a cross purchase arrangement, and then loan the proceeds to the business if an entity purchase/stock redemption approached is determined to be most advantageous after an owner's death.
How Can a Sole Owner Assist a Key Employee with the Premiums Needed to Fund an Insured Buy-Sell Plan?
A key employee who plans to purchase the business at a sole owner's death guarantees personal job security without the risks associated with launching a new business venture. If, however, payment of the life insurance premiums required to fund an insured buy-sell plan imposes a financial hardship on the key employee, it may be to the owner's advantage to help the key employee with the premium payments. In this way, the owner assures his or her family of receiving the full value of the business at the owner's death.
There are three ways a sole owner can assist a key employee with the premiums required to fund an insured buy-sell plan:
The owner could increase the key employee's compensation to cover at least a portion of the insurance premiums.
The owner could make a personal loan to the key employee for at least a portion of the insurance premium. A schedule for the repayment of these loans could then be included in the buy-sell agreement.
The owner could loan the key employee all or part of the insurance premium, with the loans secured by a collateral assignment of the insurance policy. Unless the key employee pays the employer market-rate interest on the loans, however, the key employee is taxed each year on the difference between market-rate interest and the actual interest paid, if any.