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Buy-Sell Agreement basics

Buy-Sell Agreements protect your company from future problems by solidifying what happens if an owner wants—or needs—to sell their part of the company. This agreement outlines who can buy an owner's interest, what will be the price, and what is to happen with an owner's part of the business should they die, become disabled, retire, declare bankruptcy, or get divorced.


How does a Buy-Sell Agreement work?


A Buy-Sell Agreement is a legally binding contract that lays out the parameters under which shares in a business can be bought or sold. A Buy-Sell agreement is an attempt to avoid potential chaos should one of the partners in an organization want or need to exit the business.


Do I need a Buy-Sell Agreement?


You should consider making a Buy-Sell agreement if:

  • You and the other partners of the company want to control who is allowed to buy an interest in the business.
  • You want to outline what happens if a partner becomes disabled, retires, goes bankrupt, or dies.
  • You want to establish a fair price for the business in advance of any disagreements between partners.
  • You want to decide what happens to an owner's interest if a partner divorces.
  • You want to require that anyone who inherits interest (by death or divorce) in the business must sell their portion to the company.

If you do not have a Buy-Sell agreement in place under any of the preceding circumstances, then your business could be subject to a partition by sale. This means that a court may order the dismantling and selling off components of the business in order to provide the financial value that a new owner is entitled to. Alternatively, a court could decide to grant ownership to a new person under one of the aforementioned circumstances, which would grant that new person the same decision-making ability as the existing partners.


What are the key elements of a Buy-Sell Agreement?


The key elements of a Buy-Sell Agreement that ought to be considered include the following.

  • What happens if an owner wants out?

    Will you require that their portion is sold to the remaining owners? How much notice must they give? What happens if the other owners cannot afford to make the purchase? Will a third-party buyer be allowed to purchase the interest if all members approve? Will life insurance be required?

  • What if an owner involuntarily loses possession of their portion of the business?

    What happens if an owner dies and a beneficiary inherits their portion of the business? What if an owner divorces and an ex-spouse is awarded part of the business? What if a person dies and their executor needs to sell their portion of the business to cover debts? Will the other owners have the first option to purchase? If an owner is going to declare bankruptcy, how much notice do they need to give?

  • What is the value of the company and the purchase price?

    You will likely need to consult with a professional to determine a fair value for your company. Companies typically hire a CPA and or a valuation professional in order to determine a reasonable valuation of the business. A method for determining the valuation of the business in the future should also be considered.

  • Will payment options be considered?

    If you agree that payment options will be considered for future purchasers, how much will they need to pay down? How long do they have to pay the entire balance? Will interest be charged? How much time do they have to begin payments?


Why is a Buy-Sell Agreement important?


Some people refer to Buy-Sell Agreements as a "prenup" for businesses. This is a relevant comparison in that a Buy-Sell Agreement is typically created at the inception of a business, when all of the stakeholders are generally agreeable. This is the best time to sit down and discuss how best to plan for potential potholes in the future. Every co-owned business should draft a Buy-Sell Agreement as soon as possible. It outlines, before problems occur, what happens if an owner's interest in the company becomes available (for whatever reason), who can buy available portions, and what the fair purchase price will be.


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