Many small businesses are partnerships between two or more members. When times are good and the partners are healthy, there is usually little concern about having a viable succession plan. However, what if one of the partners develops a long-term disability or dies suddenly? What will happen to the business?
You need proper planning to make a success out of a partnership business succession. A buy-sell agreement is a good starting point. The buy-sell agreement sets out the terms for the purchase of the business by the surviving owners in the event one of the owners passes away. A central purpose of the agreement is to reassure customers, employees, and vendors that the business will continue uninterrupted and free from litigation.
The agreement will spell out how the business is to be valued for purchase by the surviving partners as well as for estate taxes. These provisions will help eliminate an area of potential dispute. In addition, the agreement provides a financing mechanism for the surviving partners to acquire the share of the deceased partner. Life insurance is a key component to a well-executed buy-sell agreement, since many businesses will not have the liquidity to purchase the share outright.
For example, suppose your business is valued at $4 million and you have one partner. If your partner dies, you would need $2 million to purchase his share or else his heirs will become your new partner. Here is where life insurance comes in. By taking out a life insurance policy on each partner and paying the death benefit to the deceased partner’s surviving family members in exchange for his share of business, the remaining partners can focus on growth and profit rather than debt and disharmony. In short, the sooner the family of the deceased partner is paid out, the better it is for the business.
The important thing to remember is not to wait until it’s too late and to consult with an insurance or financial professional with expertise in business succession planning.
Founder and Principal
Rubino & Liang