Buy-Sell Agreements: A Business Owner's Prenup

Business partnerships like marriages require passion, commitment, honesty, problem-solving and teamwork to be successful. We have all heard the common statistic that nearly 50% of marriages end in divorce, however the rate for business partnerships is closer to 80%.   As a co-owner of a business, having a succession plan if things don’t end up ‘happily ever after’ is wise, and will prepare you for the unexpected, like an owner’s death, disability or divorce as well as the anticipated, a partner’s retirement. A buy sell agreement is to business owners what a prenuptial agreement is to a couple before they walk down the aisle and say 'I do', it takes care of things if they don’t go as planned, and provides an exit strategy for the parties.

What is a buy-sell agreement?

A buy-sell agreement is a legal contract that provides a business owner the ability to transfer their ownership interest or to buy another co-owner’s interest in the business. Such agreements are also called buyout and business continuation agreements. In general, buy/sell provisions should be drafted to address some of the following issues:

1. What events will trigger the buy/sell transaction, such as a co-owner’s death, disability, divorce, bankruptcy or retirement?
2. What will the value of the business interest be when it is sold, and who is it being transferred to?
3. What are the financing and payment terms and options for the purchase or sale?
4. What are the tax consequences as a result of the transfer to the business, the owner selling their interest and the other owners?
5. What remedies are available if disputes arise and how will such disputes be resolved?

When is the right time to have a buy-sell agreement signed?

There is no specific time to put in place a buy-sell agreement, but the most advisable is generally at the formation of the business entity. At the start of any business, the balance of power between the owners is fairly even which means there is usually some room to negotiate with each other. Thereafter, like most marriages or relationships, things change over time, in the business context equity interests among owners may vary creating differences, making it more challenging to go back to where you started.

Why have a buy-sell agreement?

Especially in the private closely-held business arena, there is no readily available market to sell your interest in a business as a co-owner, unlike a stock exchange for publicly traded companies. This means that without a buy-sell agreement, an owner can be in the position of having an unsellable interest in the business. A buy-sell agreement can provide the following advantages to business owners:

1. Provide a business continuation plan in the event of a death, disability, divorce, bankruptcy or retirement of a co-owner.
2. Provide an exit strategy for a departing business owner(s) and a funding source which the business or remaining owners can utilize to buy the business interest being sold.
3. Avoids the possibility of being in business with your partner’s spouse or survivors.
4. Provides greater control of who you sell your interest to.
5. A well drafted buy-sell agreement can avoid high litigation costs in the event of disputes between owners and with the business.

So before you ‘walk down that aisle, look your business partner in the eye and say, I do,’ remember that a buy-sell agreement can provide you options as a business owner if things don’t end up ‘happily ever after!’

DISCLAIMER:   The information contained in this article is for informational purposes only and does not constitute legal advice nor does the transmission of this information intend to create an attorney-client relationship between sender and receiver.  Please be advised not to act or rely on any information in this article without first seeking legal counsel. For more information, please contact Encompass Law, PLLC., at 612-708-5130 or email, [email protected].