A buy/sell agreement is a key document that any business that has multiple shareholders/partners should have.
What is it?
A contract that is entered into between business partners to allow one party to buy out the other party should a specific event occur. An event which may trigger a buy/sell agreement includes death, trauma, long-term disability, retirement or bankruptcy.
Nobody likes to think about this but it is inevitable that one day you will leave your business.
Personal insurance is a key element of a buy/sell agreement. An insurance policy is generally taken up with the buy/sell agreement to provide the necessary funding to the party that will need to buy out the party leaving the business.
How does this work in practice?
Let’s take a look at a simple example.
ABC Pty Ltd is owned by 2 shareholders, 50% by Mr Richards and 50% by Mr Brown. They are both married to their respective wives.
They have had a buy/sell agreement drawn up which outlines if one party dies, the other party will have first right to buy the shares off the deceased estate. If this happens, a valuation of $500,000 is put on 50% of the shares.
Let’s say Mr Richards dies expectantly and the buy/sell agreement comes into play. Mr Brown has the right to buy Mr Richards 50% interest for $500,000. The issue is, does Mr Brown have this money available?
To make sure funding is available when a trigger event occurs, let’s say they both had insurance policies that paid out $500,000 when one of the parties dies, i.e. if Mr Richards dies, Mr Brown receives $500,000 and if Mr Brown dies, Mr Richards receives $500,000.
Therefore, in our example, Mr Richards has passed away and Mr Brown receives $500,000. This money can then be used to pay to Mrs Richards (or whoever the beneficiaries of Mr Richards estate are) for the purchase of 50% of the business.