One of the most common ways that life insurance is being used for businesses these days is to fund a Buy-Sell Agreement. When there are multiple owners, a Buy-Sell Agreement is usually in place to provide for the transition of each person’s interest in the event of death of one of the owners. This is a legal document, signed by the owners, that confirms the percentage of ownership that each has in the business as well as the value of the business.
There are a few ways of funding the Buy-Sell Agreement, including cash flow generated by the business, establishing a sinking fund and borrowing the money, but the best way to fund a Buy-Sell Agreement is through life insurance, which provides the following advantages:
Along with the Buy-Sell Agreement, a business generally purchases life insurance on each co-owner. The amount of insurance coverage should equal the value of the ownership interest so that when a co-owner retires or dies, there will be enough cash from the policy proceeds to pay the family or estate in full for that share of the business, avoiding that person’s beneficiaries from becoming the new partner(s). The business generally pays the annual premiums. The insurance coverage may have to be increased periodically to reflect increases in the value of the business. The problem? Many businesses either forget or neglect to purchase life insurance!
This is a reminder that if you’re setting up a Buy-Sell Agreement, you also need to purchase a life insurance policy to fund it. This will help ensure continuity and a smooth transition if you die.