A vital component of an integrated financial plan is planning for business succession. The business interest often accounts for a substantial portion of the business owner’s wealth. Ensuring a plan is in place for the eventual transfer of the business interest will help the business owner realize the total value of the business interest and help the business. The remaining owners survive the transition. This is particularly true in the event of premature death.
Changes in ownership may create financial obligations on the part of the remaining owners and may also have income tax implications for the withdrawing owner and the remaining owners.
An integral part of the succession plan is to ensure financing is in place in the event of death to fund the purchase and sale of the business interest. The succession plan should also provide the business owner with sufficient liquidity to support the related income taxes and, where possible, take advantage of any tax deferral or tax minimization strategies that may be available.
In the case of closely held corporations or partnerships, one of the essential tools for implementing the business succession plan is the shareholders’ agreement or partnership agreement. Once the business succession plan is developed, an agreement can be drafted to reflect the needs and wishes of various parties.
Life insurance is generally an efficient means of funding the obligation under a buy/sell agreement in case a shareholder or partner dies. Numerous ways to structure a buyout on death and life insurance funding players play an essential role in ensuring the buyout occurs. Considering the various methods for structuring a buy/sell agreement, it should be kept in mind that there is no “right way” to proceed. Each method has its own ‘pros’ and ‘cons’ and must be considered in the light of the circumstances of a given situation.
In the corporate context, a vital threshold is whether to have the buy/sell arrangement with ‘corporate owned’ or ‘personally owned life insurance.’ The cross-purchase method is generally funded using personally owned insurance. The promissory note, share redemption, and hybrid approaches are funded with corporate-owned insurance. Each structure has differing advantages from a tax perspective depending on the facts. One arrangement may be more favourable than another.
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