Buy-Sell Agreements

Estate planning for the business owner of a closely held corporation is important and involves many complex estate and tax planning issues. A closely held corporation is a business that is generally owned by only a few people (shareholders) and is not publicly traded. For example, Coca Cola is an example of a publicly traded corporation, and anyone who purchases shares of stock in this company becomes a shareholder and thus owns part of the company. Many businesses however, are not publicly owned or traded, but rather they are “closely held” by only a few individuals.

In order to plan for the continued ownership and control of a closely held corporation, due to certain events, a buy-sell agreement is usually used. Certain life events necessitate the use of a buy-sell agreement; that being the death, disability, or retirement of the owner(s). This document works to restrict the transfer of stock and make certain that unwanted outsiders don’t try to take control of the company. It also seeks to prevent unnecessary clashes and problems among surviving spouses and children. Another benefit of the buy-sell agreement is that it can be structured to provide adequate cash to meet liquidity needs to the remaining shareholders to purchase the company. Life insurance is generally owned by and payable to the corporation to fund the purchase of an owner’s business interest.

For planning purposes, the buy-sell agreement has several advantages; the deceased’s estate now has a marketable interest in the corporation, and sets a value for estate tax purposes. If the shareholder is still living, he now has the opportunity to negotiate a fair price for his share as he plans for his retirement or disability.

A buy-sell agreement is also a desirable planning tool that may be useful in the event of a divorce or bankruptcy.

Restrictions to these agreements include a limitation on transfers to certain classes of people. For example, it can be structured so that only family members in a family-owned business would be allowed to purchase an interest, while outsiders would be restricted. In some families this is very important, as they seek to pass the business along to future generations.

For estate tax planning purposes, it is useful to know that if the life insurance is owned by and payable to the corporation to fund the business owner’s interest, at his death the proceeds are not payable to his estate. These proceeds are not included in his gross estate. The value of the business interest however, is includable in the insured’s gross estate.

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