Insurance Maze Blog

Nov 20

Life Insurance & Buy-Sell Agreement

November 20, 2007

Life insurance may be the solution to insuring that your buy-sell agreement is properly funded. Many businesses already have one of these written agreements in place, but there is one very important problem - there are no funds to execute the agreement.

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A Buy-Sell Agreement Is Just a Piece of Paper Unless It’s Funded

An agreement to sell a partner’s or co-owner’s interest in a business in the event of premature death can be accomplished by a written:

Buy-Sell Agreement
Cross-Purchase Agreement
Entity Purchase Agreement

These agreements provide a business arrangement in which one person or entity agrees to “buy” and the other party agrees to “sell” an interest in a business, at a pre-determined price.

Life Insurance and the Buy-Sell Agreement

In this situation, normally each partner or owner applies for a life insurance policy on each of the other co-owners’ lives. At the death of the owner, the proceeds from the insurance policy are paid to the remaining owners and his/her interest in the business is actually sold to the remaining owners.

Let’s assume we have three partners in a business - Partner “A”; Partner “B”; and Partner “C”. Here’s how the purchase of life insurance would work:

Partner “A” would purchase life insurance policies on Partners “B” and “C”.
Partner “B” would purchase life insurance policies on Partners “A” and “C”.
Partner “C” would purchase life insurance policies on Partners “A” and “B”.

This way in the event of the premature death of either partner, the remaining partners, after receiving the proceeds from the life insurance policies, would have the assets to purchase the deceased partner’s interest in the business.

Life Insurance and the Cross-Purchase Agreement

The main difference between a Buy-Sell Agreement and a Cross-Purchase Agreement is that the Cross-Purchase Agreement normally involves corporations with stockholders. Each stockholder buys a life insurance policy on each of the other stockholders. At the death of one stockholder, the proceeds are paid to the surviving stockholders.

Life Insurance and the Entity Purchase Agreement

Here, the business (or entity) purchases life insurance policies on the lives of the owners. At the death of an owner, the proceeds of the life insurance policy are paid to the business, which are used to purchase the deceased partner’s share of the business.

Your business insurance agent can provide you with samples of these agreements, but the actual agreement for your business should be prepared by an attorney.

Always remember, as your business grows, so will the value of each partner’s share. Make sure that your buy-sell agreement is reviewed on a regular basis and amended to reflect the “current” value of the business.

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