Nothing defines living the dream like starting one’s own venture. However, since this is a costly affair, most people opt to bring in partners to raise the required capital. And since a partnership is like a marriage, people are conscious of who they bring on board. However, there’s one thing people forget to take into account. What if the partner has to leave? What if the partner is disabled or even worse, passes on? If you do not have this already figured out, it could severely cripple your business. For this reason, if you want your business to survive such a phase, you need to get into a buy-sell agreement.
What is a Buy/Sell Agreement?
A buy-sell agreement is a lifesaver in a business. It is a written agreement that includes a transition plan if a partner retires, becomes disabled or dies. In almost all cases, the buy-sell agreement contains all the partners, though in some cases, the interests of some partners may be placed first before the others.
The terms to a buy-sell agreement often vary as they rely on the particular circumstances in the partnership. However, there are three common trigger events: retirement, disability, and death. Here is each event and its own funding solution.
Death of a partner- Before this event, the partners take up life insurance policies on one another. However, if for example, one partner has a minuscule interest in the business, the insurance policy will only be required on the partner with the majority interest. Whichever the case, the surviving partner should be able to cost-effectively raise funds to purchase the interest of the deceased partner using life insurance. If the life insurance is adequate, the estate of the deceased partner will receive cash flow straightaway, and there will be supplemental cash into the business to compensate for the loss. It also means that partnership interests are transferred and a financial crisis is averted.
Disability or retirement of a partner- If a partner becomes disabled and which prevents them from actively taking part in the business, and if the impairment prolongs for an extended period, the interest of the disabled partner in the venture may have to be bought out. Similarly, if a partner retires, their interest will have to be bought. The buy-sell agreement should have provisions that cater for both situations. In case of a disability, the agreement should include:
A definition of the phrase “permanently disabled.”
The length of time that a disabling condition should last to initiate a buy-out.
Enable taking up disability buy-out insurance to be used as a funding source.
Do you want to avert a financial crisis when a partner dies, is disabled or retires? Getting into a buy-sell agreement is the best solution to these events.