If you own a business, having a buy-sell agreement is a necessity. Without it, a closely-held or family-owned business is in jeopardy in the event of the owner’s death, disability, retirement, divorce or bankruptcy, or if a dispute arises among the owners. A buy-sell agreement is a legally-binding contract among the owners addressing the terms and conditions for transitioning ownership if any of these events should occur.
It makes no difference whether your business is a corporation, partnership or limited liability company. All forms of business entities stand to benefit from having an agreement in place to help assure a seamless transition of ownership. Typically, an LLC’s Operating Agreement would include these provisions while, for a corporation, they might be contained in a Shareholders’ Agreement.
A properly drafted buy-sell agreement provides many key benefits to your business that can:
- Help to assure the continuity of your business by having the existing owners (rather than their spouses, heirs or a court) decide what happens when certain events occur.
- Provide protection to the business owners by establishing a succession plan for departing owners. This can help prevent the remaining owners from suddenly having to share control of the business with the spouse of a deceased or disabled owner who has little, if any, knowledge of how to operate the business.
- Minimize disputes over price and terms of the buyout.
- Protect the continued financial viability of the business by providing an agreed-upon plan for purchasing the equity interest of the withdrawing owner.
Typically, the buy-sell is structured as either a cross-purchase or redemption agreement. With the former, the remaining owner(s) buy out the equity of the departing co-owner. With a redemption agreement, the company itself purchases the ownership interest of the departing owner. Both are frequently funded with life insurance if the triggering event is the death of an owner. The price can be fixed, determined by appraisal, or be calculated pursuant to a formula. There can also be different price and payment terms depending upon the type of triggering event. For example, where death is covered by life insurance, the price and payment terms may be different than if the buyout triggered by disability or retirement that is not covered by insurance.
If you have a buy-sell agreement in place, it is important to review it on a regular basis. Annually, the owners should determine whether the agreement reflects what they want upon each of the various triggering events. This includes a determination as to whether the valuations and terms for payment are still appropriate. As the valuation of the business changes, an assessment should be made on whether the amounts of insurance are sufficient to cover present valuations as well as anticipated future increases.
We can assist you in designing, drafting and updating your buy-sell agreement to address your current and future needs. For additional information on this, contact Ronald Lyons, Esq. at rlyons@mcmillanmetro.com or by phone at (301) 251-1180