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Spell Out Your Business's Future with a Buy-Sell Agreement by Leslie Seleznow
A typical small business owner spends so much time attending to
immediate tasks that planning for the future is often neglected. This
is too bad, because business owners who neglect planning now may cause
their families and business partners to pay dearly for this oversight
later.
If you're a business owner, you may not have planned sufficiently
for the future if a buy-sell agreement hasn't been drawn. A buy-sell
agreement decrees how a business, or share of a business, will be
transferred upon death, disability or retirement. A buy-sell agreement
can be between partners, between a business entity and its stockholders,
or between an owner and a key employee. It predetermines who will
receive a business or its share, how the sale or transfer will be funded
and it provides a means for paying personal estate taxes after the
transfer.
There are three types of buy-sell agreements and all determine
the value of the business through an updated business valuation or a
formula derived from an older valuation. The first is a stock
redemption plan, which is an agreement between a corporation and its
shareholders. A second type is a cross-purchase plan, which is an
agreement usually among shareholders or partners. A third, less known
option is a "wait-and-see" buy-sell plan, offers flexibility and tax and
economic advantages that take the best from the first two options. In
this buy-sell scenario, a corporation can exercise its buy option or
waive its right, thus triggering the cross-purchase option to kick in.
Regardless of which buy-sell plan is chosen, business owners
should consult with a professional to help avoid tricky tax and
procedural pitfalls. And, equally important, a financial professional
can present appropriate funding options. Without them, all the planning
in the world can be for naught.
Almost one-quarter of all business successions don't go as
planned due to lack of adequate funding to carry out those plans.
Business succession failures due to inadequate funding are even higher
among family businesses. That's because many family business owners
spell out transfer arrangements, but neglect to plan how they will be
funded.
When a business owner is disabled or opts out of the business for
other reasons, other owners get first crack at that share of the
business. Of course, they need the money to acquire those shares. When
a business or its shares become available because of the death of an
owner or shareholder, surviving owners again get the first option to
buy, even though the business interest is usually willed to a family
estate. Most buy-sell plans include the stipulation that surviving
family members, if not previously involved in the day-to-day business
operations, sell their interest to surviving owners. The cash received
for this interest helps to meet family estate tax obligations and the
business is in the hands of people best qualified to run it.
Self-funding, borrowing and insuring a buy-out are the three
basic ways most buy-sell plans are funded.
With self-funding, surviving owners or shareholders can either
pay for the business interest outright or through an installment plan.
Buy-out funds can also be accumulated through the establishment of a
sinking fund, basically a savings plan in which business owners put
aside money on a regular basis for the sole purpose of buying shares
when they become available. While this funding arrangement helps money
accumulate in the future, all the while earning interest, borrowing
provides the money upfront with interest payments figured into future
payments. All three arrangements have a variety of holes should the
unexpected happens.
What if death or disability occurs before funds have accumulated
to meet the buying price? What if borrowing becomes tight because the
departure has an adverse affect on business? Can a deceased owner's
estate afford to wait for an installment plan?
That's where insurance comes in. Bought by either the company or
by partners on each other's lives, insurance is the surest method of
providing cash when it's needed. Through a variety of insurance
programs such as split-dollar, in which an insured owner and other
partners split the cost, tax-advantaged savings can be accomplished now
while future payout is guaranteed. Whole life insurance, which builds
cash value, can also provide needed funds when events other than death
trigger a buy-out clause. And many companies now sell disability
insurance to specifically meet buy-sell needs.
The existence of a buy-sell plan ensures the orderly transition
of a business, and a proper funding vehicle ensures the money will be
there when the time comes. Plan for the future now. Your business
depends on it.
Leslie Seleznow is a Financial Advisor with Comprehensive Planning Services
1440 Veterans Memorial Highway, Hauppauge, NY 11749
Telephone: 631-389-2345
Email: seleznow_leslie@nlvmail.com
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