Understanding Buy-Sell Agreements
Picture it: you and your co-owner have created a successful business together. But now your co-owner is facing a divorce. Is their family going to interfere in the business? Or will the bank step in?
This is where the buy-sell agreement comes in. By considering the future ahead of time, you can best plan for yourself, your business, and avoid complications when you lose a business partner.
What is a Buy-Sell Agreement?
“A buy-sell agreement deals with a specific exit strategy between business partners,” says Patrick Devitt, founder and CEO of Generational Wealth. “They lay the groundwork for how ownership shares should be handled if one of the partners leaves the business due to a triggering event such as death, disability or divorce.”
It’s a good idea for owners to establish a buy-sell agreement early on when creating their business plan. A solid agreement offers contingency plans for when life-changing events occur, and outlines a continuity plan for your business.
What are the main parts of a Buy-Sell Agreement?
A buy-sell agreement typically includes three main elements:
Triggering event: buy-sell agreements are, generally, executed once an event occurs. This could be death, illness, divorce, or retirement for example
Funding strategy: a buy-sell agreement will outline terms of payment and how that will be funded, whether that’s through insurance, selling assets or shares
Valuation: your business will need to be properly valued; this can either be done between owners (and agreed upon), or by an independent valuation, depending on the agreement
Why use a Buy-Sell Agreement?
Along with the general peace of mind it can provide, having a buy-sell agreement settled early lays the groundwork for what might be harder decisions down the line.
“The primary purpose of a buy-sell agreement is to maintain ownership and operations within the existing ownership group,” Patrick says. “This could mean avoiding interference from the exiting owner’s family, or even providing liquidity to pay estate taxes or retirement.”
Patrick also notes that the agreement can be helpful in establishing guidelines for how ownership of the business should progress, in particular if you imagine the business staying in the family. “A good buy-sell agreement will also help avoid disputes with the exiting owner’s family regarding succession and value, and provide a smooth transition to the next generation,” he says.
What should a Buy-Sell Agreement include?
A well-structured buy-sell agreement will:
Ensure cash is available to execute the agreement
Outline the continuity or orderly disposition of the business
Protect surviving owners from gaining an undesirable co-owner
Convert the business interest into cash to provide financial security for the deceased interest holder’s family
Assure the interest holder that there will be a buyer for the business
Reassure business creditors by providing business continuity
Control the value of the business for estate tax purposes
“In short, a properly structured business continuation agreement has many advantages,” Patrick says.
Funding a Buy-Sell Agreement for my business
A buy-sell agreement is an important part of any business plan: it can ensure your business will continue to operate even after you (or other partners) have left, includes stipulations for funding, and can help avoid future arguments over ownership.
Want to find out more about Buy-Sell Agreements? Generational Wealth Group can help you protect your family, wealth and business with smart planning that’s tailored to fit your needs.