When building a business, you speculate a lot about the future while planning for multiple contingencies. 

For example, a responsible business owner or partner plans for the worst-case scenario as well as the best. That includes creating a buy-sell agreement with your partners in case a partner leaves or dies. This ensures there’s a roadmap for how that partner’s share of the business will be transferred.

Whether you call it a buyout agreement, business will, or even a business prenup, having this contract in place is essential—not only for the company but also for your personal estate. 

That’s because when planning your estate plan, the future of the business you’ve built is a key factor, especially in the event of an untimely death. So, how does this business agreement tie into it?

What’s included in a buy-sell agreement?

A comprehensive and well-prepared buy-sell agreement includes a few key elements. These will ensure the agreement is enforceable and reduce the possibility of disputes during a transition.

Triggering events

Your buy-sell agreement should clearly outline the events that will activate the terms in the agreement so there’s no dispute with the remaining owners on whether or not it applies. 

Some of these events will be obvious, especially if you are thinking in the context of estate planning, such as death. However, other triggering event types should be considered, such as disability, retirement, or a desire to exit the business.

Valuation method

The agreement should also detail the method for valuing the business. This can be a formula, a third-party appraisal, or another agreed-upon method to determine the book value and inform the potential purchase price for a buyout. In Texas, courts often prefer fair market value determinations by qualified appraisers, but numerous options are available.

Terms and conditions

All the parties should agree on and outline their rights and obligations, including details like the timeline for the sale, payment terms, and any restrictions on who can purchase the business interest. 

Some options for terms and conditions include: 

• A cross-purchase agreement where only the remaining partners or shareholders can purchase your interest, rather than allowing outside partners to buy in.
• A redemption agreement where your company purchases your stake might be an option, depending on your business structure. 
• A wait-and-see buy-sell is a hybrid option. It gives the business the first right of refusal, and the remaining owners are next in line for the option to buy.

This is where it’s important to weigh your family’s needs against your business’s. When the time comes, you want to be sure you’ve done your best to safeguard your surviving family members while offering fair terms to your business partners. 

Funding mechanism

In addition to the components above, you should specify how the purchase of the business interest will be funded. 

Funding can include life insurance policies on the partners’ lives, personal funds, or a sinking fund when funds are set aside over time to accumulate the amount necessary for a purchase.

Keep in mind that your funding mechanisms may come with tax implications. For example, life insurance is a popular choice, but you may run into alternative minimum tax issues if your business is structured as a C corporation. It’s helpful to discuss your options with your attorney as well as qualified financial professionals. 

Can a buy-sell agreement impact your estate plan?

Yes, a buy-sell agreement directly shapes how your estate plan handles your business interests, affecting both their transfer and financial outcomes. A buy-sell agreement can work in tandem with wills, trusts, and other estate planning contracts and documents to ensure a smooth transition for your family and business partners. 

How a buy-sell agreement helps:

• Creates liquidity for estate expenses: A buy-sell agreement can help ensure your estate has sufficient funds to cover taxes or debts without selling off other assets. If you link life insurance policies to the agreement, your business interest may be bought out, providing your heirs with cash rather than a business stake they might not want.
• Defines ownership transfer: A buy-sell agreement should outline how ownership moves forward. This guides the remaining partners in buying out the business share, helping keep operations intact and preventing conflicts over control.
• Establishes business value: Disagreements over share values can get messy and contentious. A buy-sell agreement provides a valuation process, which determines the buyout price and informs tax calculations for your estate. This helps everyone stay on the same page and reduces conflict.
• Avoids forced sales: Without a buy-sell agreement, your heirs might sell their inherited business interest quickly or at a loss to cover taxes or debts. The agreement allows for a planned buyout, keeping the business within the existing ownership group while providing for your family’s financial needs. 

Potential challenges with buy-sell agreements:

• Limits heirs’ control: A buy-sell agreement may require your heirs to sell your business interest, limiting their ability to retain it. The agreement might restrict those options if they wish to remain involved unless the plan accounts for their intentions.
• Risk of outdated valuation: If the valuation method in the agreement becomes outdated, your heirs may receive less than the business’s true value, or the remaining partners may face financial pressure if the price is too high.
• Funding issues: If the buy-sell agreement isn’t sufficiently funded, the remaining partners or the business could struggle to complete the buyout, leading to delays and potential operational difficulties.

Can you separate your buy-sell agreement from your estate plan? 

While it’s technically possible to keep your buy-sell agreement and estate plan separate, doing so might work against the best interests of both your estate plan and your business goals. 

These two documents work best when they reinforce the other’s objectives. Your buy-sell agreement outlines what happens to your business interest if you exit the company. At the same time, your estate plan dictates how your assets, including that business interest, are distributed after you’re gone. 

When aligned, they create a smooth transition for your business and your family—a valuable benefit for everyone, particularly if it comes from an untimely death.

That said, keeping them separate isn’t impossible. If you choose this route, you’ll need to be vigilant about potential conflicts. For instance, your buy-sell agreement might require selling your business interest upon your death, but your will might try to pass that same interest to your children. If you do choose to purchase a separate route, an experienced estate planning attorney can help you navigate these waters and ensure all your legal ducks are in a row.

The attorneys at the Law Offices of Shann M. Chaudhry, Esq., are experienced in both business and estate planning

To capitalize on the benefits of incorporating a buy-sell agreement into your estate planning, you need the guidance of legal counsel knowledgeable in both.

Our attorneys can help you determine the type of agreement that will work best for you and your business based on its current structure and your goals for your legacy. We also work closely with you to ensure the agreement and estate planning documents keep up with your business’s growth and any life changes.

By incorporating a well-designed buy-sell agreement into your estate plan, you can protect your interests, provide for your heirs, and give your business and partners the best chance for continued success. Contact us today to schedule a consultation to get started on a comprehensive estate plan that includes protection for your business.