Almost all closely-held businesses, especially multi-owner corporations and partnerships, need a buy-sell agreement in place. Individually owned businesses can also profit from the use of a buy-sell agreement. (In a single-owner business, the buyer could be key employee(s), a competitor, a supplier or even a customer.) Buy-sell agreements are essential for the smooth transition of ownership upon the occurrence of several events, namely the "Eight D’s:"

1. Death of a shareholder. In the event of an owner's death, business can suffer a financial setback (key person loss), compounded if the surviving shareholders must take in a new partner such as the deceased owner's spouse. He or she may have very little knowledge of the business, yet expect a salary and profits from the business. Harmonious transition of the business can be accomplished with a buy-sell agreement fully funded with life insurance coverage.

2. Disability of a shareholder. While most buy-sells take into account death, many totally ignore what could be a more serious financial drain—disability. Often, disability is poorly defined and not funded or under-funded. A disabled shareholder would expect his/her salary to continue, as well as a share of profits. If the disability is extended, how long could the business keep paying? All of these decisions should be outlined in the agreement. It should be a business decision based on previously agreed-upon terms, not emotions.

3. Departure of a shareholder. When a shareholder leaves, whether for regular retirement or early voluntary retirement, his or her stock should be purchased. The purchase price can be the same as or less than the death price (it cannot be more). A lower purchase price might be set for early termination. As for retirement planning, a life insurance policy can provide the death benefit and also be used as a retirement supplement.

4. Divorce of a shareholder. It's not unusual for a spouse to end up with half the stock of a closely-held business in event of a divorce. There should be a provision in the buy-sell to force the spouse to sell stock back to either the: (a) corporation; (b) original shareholder; or (c) other shareholders. Again, the price cannot be higher than the death price.

5. Deadlock. If equal owners come to a major disagreement, the business can become "deadlocked,” unable to further conduct normal operations. In this case, the business may have to be liquidated. This should be taken into consideration in the buy-sell agreement.

6. Disagreement among owners. If ownership is unequal and there is a major disagreement, a minority shareholder could be forced out of active employment. In that case, it would probably make sense to purchase his or her interest. This possibility should be taken care of in the agreement.

7. Default. In most closely-held corporations, the individual shareholders must personally guarantee corporate loans from banks and/or contribute payments to the bank or business. In the buy-sell agreement, there should be a provision whereby if a shareholder defaults, a buyout is triggered for his or her interest.

8. Determination of value. The most important item in a buy-sell is the valuation of stock or business interest. No one wants to over-pay for a business interest. In addition, each owner wants to be sure he or she (or his or her family) receives fair value in the event of a living buyout or death. Appraisals may be viable and even required if family members are involved. Proper valuation also fixes the value in the deceased's estate for federal estate tax purposes. One stipulation is that the value must be fair market value at the time of the agreement. If appropriate life insurance is not purchased to fund the full value, then an installment purchase arrangement should be provided for the balance.

When buy-sells are drafted or reviewed, perhaps the "Eight Ds" would make a good checklist for consideration. It's far easier to make business decisions regarding these situations before they occur than to make emotional decisions after the fact.

Bruce R. Glassman is a registered investment advisor
representative of Lincoln Financial Advisors Corp., and can be
reached at (904) 354-3726 or bruce.glassman@lnc.com.