The Importance of a Buy-Sell Agreement

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For anyone who owns part of or all of a business should know about buy-sell agreements. It is essentially a contract that allows the transfer/sale of an owner’s interest in a business, to the other remaining owners when certain events occur. Typical events included in the agreement are, death and total and permanent disability of one of the owners. There could be instances where events such a retirement, divorce, bankruptcy or an unresolvable conflict between owners, also included in the agreement.

Buy-sell agreements are often associated with insurance policies and are widely used by many businesses to fund the payout due to the family or the estate of the outgoing owners, during the occurrence of the events spelt out in the agreement. It is essentially like having a will in place for a business. Unless one plans to be lucky forever, it iscritical for businesses to have one in place. In the absence of one, the consequences can be devastating.

For example, you and John own a timber business as 50/50 partners. When John passes on, the business should still carry on. In this instance does John’s wife or children become your new partner? Somebody who may have absolutely no knowledge of how the business is run. Or you may decide to want to buy them out, but can you do so? And if possible, on what terms and valuation?

From this simple example, you can see how not having a buy-sell agreement can be detrimental to the continuity of a business. The business could wind up in the wrong hands, such as someone whom has no prior knowledge of running the business, or worse to a fellow competitor in the event that the surviving heir decides to sell off his or her inherited shares to the business. The business could also get run to the ground when the surviving owners and heirs are contesting in courts with regards to their claims and rights. Therefore, having a buy-sell agreement in place will ensure that there is sufficient compensation for any outgoing owner’s interest in the business. Furthermore, given that the compensation is funded by an insurance policy, the surviving owners need not have to dig into their own pockets or take a loan to finance the buy-out.

A buy-sell agreement plays a fundamental role in ensuring business succession and continuity. It eradicates potential pitfalls that may surface with replacing outgoing owners, and at the same time ensures that the interest of all stakeholders is taken care of. The cost associated with effecting a buy-sell agreement pales in comparison to the benefits that it can bring about.

Yours Sincerely,
Leon Tan

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