Buy-Sell Agreements
(A Special Type of Stockholders Agreement)
A seminar presented by Scott Dondershine, Esq., CPA
Goals of Stockholder Agreements
- Restrict Transfer of Shares During Lifetime
- Lock in the Value of Shares for Estate Tax Purposes
- Provide a Market for Shares Upon Death of a Stockholder or Termination of Employment
- Secure Successful Transition of Business from One Generation to the Next
Restriction on Transfer of Shares
- Desired sale to third party
- Bankruptcy or divorce
- Gift or pledge
- Termination: For Cause and Not For Cause
- Death
- Drag Along
Lock in Value for Estate Tax Purposes
- Need to:
- Formulate mechanism for valuing shares
- Agreement must have valid business purpose
- Estate must be obligated to sell
- Agreement must be binding for lifetime transfers (generally, same price as at death)
- Minimize audit exposure
- Save a lot of estate taxes and attorney fees
- A lot of agreements do not sufficiently consider this issue
Provide a Market for Shares
- Insurance proceeds
- Death
- Disability
- Retirement or other termination of employment - CSV
Business Succession
- Who will inherit?
- Kids
- Spouse
- Creditors
- Key employees
Types of Buy-Sell Agreements
- Cross-Purchase
- Increase in basis
- Can be complicated if have more than three or four stockholders: Each stockholder needs to own policy on life of every other stockholder unless use LLC
- Stock Redemption
- No increase in basis
- Potential AMT problem
- Avoid potential dividend treatment if not buying all shares
- Probably easier to administer
Transfer for Value Pitfall
Recipient Generally Not Taxed On Receipt of Proceeds
Exception that results in tax: If swap policies to start agreement or other transfer occurs
Very easy to fall into this trap - even if co-own policies to reduce required number
Potential solution if problem difficult to otherwise avoid: Have LLC own policies
Who Pays Premiums?
- Recognize income tax issues
- Possible use of split-dollar funding arrangement where corporation pays premiums but shareholder owns all or portion of policy
Who Owns Policy?
- If cross-purchase - shareholders need to own policies
- If redemption - company needs to own policies
- Possible use of split-dollar arrangement or LLC
What Happens to Excess Proceeds (if any)?
- If don't pay attention - you are rolling the dice
- Generally, excess should be retained by owner of policy: corporation or other stockholders
Summary
- Very important tool to consider even if estate and gift taxes are repealed
- But, must carefully consider all issues since there are many traps for the unwary
