Chloe Quigley, CEPA
Business Exit Planning Advisor
“The best insurance policies are the ones we never end up needing.”
– Jamie Hopkins
In his book, Find Your Freedom, Hopkins describes insurance as a tool to complete your financial plan and offer peace of mind and protection for you and your family.
A buy-sell agreement lays out how the business will transition in the event of potential outcomes for a shareholder such as:
• Voluntary or involuntary separation
He describes funding your buy-sell agreement in the event of death or disability with insurance as one of the most tax-efficient ways to help with your business continuity planning. Correctly setting up policy ownership and beneficiary arrangements can have significant tax consequences.
Generally, the policy proceeds are designed to fund the purchase, or a part of the purchase to ease the financial hurdle of one shareholder purchasing shares from the other. In his book, Hopkins outlines two methods to funding your buy-sell with insurance.
Cross purchase Buy-Sell Agreement
In this method, each owner and/or key member buys a policy to insure against the death of another key member. The formula for this is N-1 * N. For example, with two shareholders, there are two policies, but with three shareholders, there may be six. In this way, each person can buy out and liquidate the deceased member’s interest.
Entity Purchases Buy-Sell Agreement
In this method, the entity purchases all the life insurance needed to buy out a deceased member’s interest, providing liquidity to the owner’s family. This can be more efficient as you only need one policy per person, however there may be tax consequences. In either method, the total amount of insurance is the same, but in this case, it is owned by the entity.
Like any solution, funding a buy-sell with life insurance isn’t always the most optimal for every situation. Do you have a written agreement to support a smooth transition for your business?
If you’d like guidance on how to assess if this is a right fit for you and your business, reach out to our team.
For a comprehensive review of your personal situation, always consult with a tax or legal advisor. Neither Cetera Advisor Networks LLC nor any of its representatives may give legal or tax advice.