A Buy-Sell Agreement is used to protect the surviving owners of a business when one of the owners dies. The agreement determines a fair value for the business and to whom the business can be sold.
Buy-sell agreements are missing an important component to the plan
What would the business do if something happened to a partner, which left them unable to further participate in the business?
While most Buy-Sell Agreements include the needed Life Insurance, what happens if there is no death?
Without a death, the Life Insurance will not pay the death benefit necessary to provide the funds for the buyout. The business or healthy owner is left with a partner who may no longer be able to participate in the operations because of a cognitive impairment or health concern but has no funds to buy this partner out.
Possible solutions would be to cash in the Life Insurance contract for the cash value, but this will not come close to supplying the total funds needed for the buyout, especially if the policy is fairly new. That leaves getting a bank loan, or possibly depleting company assets.
An alternative solution that may help with some unforeseen situations is to add an indemnity-style LTC rider to the Life Insurance contract to allow for an installment buyout.
The indemnity style LTC pays the benefit directly to the owner of the contract
The LTC rider is actually an accelerated death benefit that is triggered by the insured (in this case the owner who can no longer participate in the business) having cognitive impairment, or being unable to perform two or more ADLs.
This benefit would be used to buy out the business owner who can no longer work through installments. If collecting the benefit, the installment buyout would be complete in 50 months (subject to a 2% benefit.)
Here’s an example:
Two owners, Sam and Dave, determine that their business is worth $700,000. They purchase policies with an LTC rider on each other for $350,000.
Dave becomes ill and is unable to participate in the business any longer. In this case, the Life Insurance policy is still of value to the situation, because it will pay an accelerated death benefit after the 90-day elimination period based on Dave qualifying for benefits under the LTC rider.
The benefit would be $7,000 per month – and will be paid federal income-tax free to Sam. Sam will use those funds to make installment payments over the next 50 months to buy out Dave’s share of the business.
Please contact your Life Sales & Marketing Manager today for more details on this solution or any other alternative business succession plans.