How to Keep Control of Your Company
What is a buy sell agreement?
A buy sell agreement is an essential contract between the joint owners of a business entity stipulating the manner of dividing the share or interest of a deceased or departed co-owner. It is also known as a buyout agreement or a buy sell business purchase agreement. Generally, buy sell agreements are part of an entity's operating agreements. However, at times they may be drafted as a separate document.
A buy sell agreement is also a purchase and sale agreement. It is simultaneously an agreement to purchase and an agreement of sale. A buy sell agreement not only creates a binding contract for sale but also lays down the purchase price and the stipulations of purchase. A buy sell agreement is a form of contract for purchase since it lays down the terms of purchase. These agreements allow easy distribution of a deceased or departed co owner's business share according to a predetermined method.
Business entities with more than one owner, such as corporations, partnerships and LLCs, enter into buy-sell agreements to avoid disputes and litigation. Since no two business entities are alike, a buy sell agreement must be well drafted with the help of a sample buy sell agreement / sample contract for purchase, incorporating specifications of each business. A well-drafted buy sell agreement helps to cover a potential sale or buyback situation and ensures a smooth business transition.
A buy sell agreement helps the joint owners to decide on:
- who is the beneficiary of a deceased or departing co owner's share or interest in the business;
- what are the events that will activate a buyout; and
- how to satisfy the deceased or departing co owner's estate.
There are various types of buy sell agreements such as:
- Cross-purchase agreement- In a cross purchase agreement, the parties enters into a contract of purchase in which, when a co owner dies or leaves the business, the other party/parties purchases the departing owner's share or interest in the business.
- Insured buy sell agreement - In an insured buy sell agreement, the buyout is supported with the life insurance of joint owners. Insured buy sell agreements are highly recommended by financial experts since it ensures sufficient money for a buy sell arrangement.
- Buy sell stock redemption agreement - In a buy sell stock redemption agreement, the business entity will purchase the share or interest of the deceased or departed owner.
Buy sell agreements provide fair treatment to all the parties and also benefit the parties in many other ways. These agreements provide a guarantee to the owners of a business that in the happening of an uncertain event, their share or interest in the business will be purchased according to the market value. Such agreements also provide an assurance that the share or interest of an owner is sold only to the business or to the remaining owners. Further, if the buy sell agreement is insured, it meets liquidity needs of the business or the owners at the time of buyout.
Buy Sell FAQs
What is a buy sell agreement?
A buy sell agreement is a contract between joint owners of a business to purchase the business interest or share of a co owner at a future date when that co owner dies or otherwise leaves the business. Buy sell agreements are otherwise known as buyout agreements or business continuation agreements. Buy sell agreements govern how the ownership is transferred and business continued on occurring events such as death, retirement, disability, or bankruptcy of the co owners. A buy sell agreement should be well drafted with the help of a sample buy sell agreement / sample contract for purchase, incorporating the nature and purpose of a business.
What are the advantages of entering into a buy sell agreement?
Multiple ownership entities such as LLCs, partnerships, and corporations enter into buy-sell agreements to cover a potential sale or buyback situation and to ensure a smooth business transition. Buy sell agreements protect the interests of surviving owners of a business. In the absence of a buy sell agreement, interest and shares of a deceased co owner in the business will be passed to the heirs of the deceased. Also, a buy sell agreement guarantees the heirs of a deceased owner fair value of the share of the deceased partner in the business.
What is a cross purchase agreement? Is there any difference between contract of purchase and a cross purchase agreement?
A cross purchase agreement is an agreement to purchase a business interest or share of a co owner on a future date. In a cross purchase agreement, one party agrees to purchase and other party agrees to sell interest or share in the business when the other party dies, retires, or otherwise become disable. It is a type of buy sell agreement. A contract for purchase, also known as contract for sale, is a legally binding agreement between parties to purchase something whereas a cross purchase agreement is a purchase and sale agreement. It is simultaneously an agreement to purchase and an agreement of sale.
Is there any difference between a cross purchase agreement and an entity purchase agreement?
Cross-purchase agreements and entity-purchase agreements/ stock redemption agreements are business purchase agreements for an orderly succession of business interests. The difference between a cross purchase agreement and an entity purchase agreement is that in a cross purchase agreement, co owners agree to purchase or sell interest in the business and in an entity purchase agreement; co owners enter into agreement with the business itself, rather than with the co owners.
Can I fund a buyout with life insurance on the participating owner's life?
Yes, a buyout can be funded with life insurance of the participating owner's life if the buy sell agreement is an insured one. An insured buy sell agreement ensures that the buy out is well funded when the contingent event happens.
Do I have to sign a separate buy sell agreement if my partnership agreement contains provisions regarding the transfer of interest?
Buy sell agreements may be drafted as a separate document or it may be part of an entity's operating agreements. Generally, a partnership agreement or an LLC operating agreement will contain provisions regarding transfer of interest or share in the entity. In such cases, provisions in the operating agreement bind the parties in the event of a buy out.