Few things are more disturbing to a business owner than the risk of being caught in business, with their former partner's spouse
Any relationship involving more than one person is complicated.
- Add a business relationship with other people – whether your spouse, other family members, or a non-family member, and any relationship breakdown involving these stakeholders will no doubt affect the business too.
- Add shared ownership of a profitable business with another person – and you have the perfect storm waiting for you in the future if you don't take action today.
The answer is in creating a simple legal document called, a Buy- Sell Agreement (BSA) and this is why.
Read in this article
- When your business is also your ability to retire
- The paperwork you do not want to avoid
- What happens if there is no Buy - Sell Agreement in place?
- How do you start the process?
- Always document key agreements between Owners and Partners
- What can be covered in a Buy & Sell Agreement?
- Prevent a significant problem from ever happening
- Where to from here?
- Statistical Risk of Business Interruption increases with the Number of Business Owners
- Frequently Asked Questions: Buy-Sell Agreements & Business Exit
When your business is also your ability to retire
For most business owners, their interest in their business is one of their main financial assets. For many, their ability to retire is actually tied to its successful future sale. So for small business owners, there's a lot riding on the ongoing stability and future salability of their business.
Most business people are so busy thinking about their customer's needs, they neglect to think about their own business needs including:
- what they would do if their business partner got sick or injured and was forced to urgently exit the business,
- what would happen to the business if their partner had a stroke and now could only work at a reduced capacity, or unexpectedly died,
- what would they do if the owners found themselves deadlocked in a dispute - effectively freeing the business into inaction?
- how does working with another business owner increase the Statistical Risk of Business interruption?
The paperwork you do not want to avoid
Buy & Sell Agreements are often considered the ‘Will of a Business’, because they enable a business owner to automatically transfer their ownership interests to the other remaining owners, should certain unplanned specified trigger events occur.
- The most common trigger events are death, long-term or permanent incapacity, significant medical trauma, or loss of cognitive capacity.
- When one of these events occurs, often one business owner will want to take ownership and control of the business, and the other owner (or their family) will want funds to maintain their lifestyle.
What happens if there is no Buy - Sell Agreement in place?
Without a proper Buy - Sell Agreement in place;
- A sick or disabled business owner (or partner) may not be able to convert their ownership share in their business to cash when they need to most.
- A business owner (or partner) may find themselves in business with a former partner’s executor, attorney, spouse, or other beneficiary and without any ability to buy out their ownership share of the business.
- A departing owner's family (or inheritance beneficiaries) may want a say in how the business is run – as is their right as new shareholders – and if they cannot or won't be brought out, they may demand access to capital reserves in the business or even demand immediate repayment of any amounts now owned to them from the owners account.
How do you start the process?
The key to good business protection is to ensure the right amount of cash is paid to the right people at the right time.
How to split the share of a business with another first requires you to:
- have a fair understanding of the value of the business, and
- know the percentage of ownership held between the owners; for example, two business partners may hold 50% ownership each, so their share of the business might be 50% of the business valuation.
Each owner would then:
- insure themselves for that amount of money (and any related CGT costs),
- agree to buy out the other's percentage of the business upon a range of pre-agreed trigger events in the future, and
- each owner would equally agree to sell their share of the business to the surviving or remaining business owner.
Once agreed to by all parties, documented and signed, it becomes a Buy & Sell Agreement and is legally recorded in a hardcopy document.
Always document key agreements between Owners and Partners
Businesses involving multiple parties should always have a governing document that outlines what has been agreed to by partners and stakeholders, and what will happen if a particular event occurs. Usually this is a Partnership Agreement or a Shareholders’ Agreement.
What can be covered in a Buy & Sell Agreement?
When it comes to agreeing on a future method to exit a business and cash out an owners share of the business, a separate Buy & Sell Agreement (BSA) can be used to formally agree ahead of time about the details including:
- Whether a sick or injured partner can continue to draw an income from the business, and for how long,
- What method of Business Valuation will be used if one owner’s share of the business needs to be sold,
- Require the departing parties to agree to sell their interest following certain agreed trigger events — usually the death or incapacity of a partner, but also divorce — and,
- Require the remaining parties to agree to purchase an existing partner's share from their family in a set period of time, usually from the proceeds of an insurance payout etc.
- Agree on the method of funding to be used — usually a Life insurance policy or a Critical Illness or Disability insurance policy - to buy out a partner's share.
Prevent a significant problem from ever happening
Problems associated with business partners suffering a sickness, injury or unexpected death, as well as disputes between partners, can be managed by making a Buy & Sell Agreement between the business owners and partners.
If you haven't got these business ownership transfer arrangements in place, it's time to make that call to us today and start the process.
Where to from here?
- Contact Sapience Financial and organise a pre-insurance assessment on the business owner's capacity to be insured.
- Request your Accountant to provide a sample Business Valuation to review.
- Ask us to provide a sample Life Insurance quote to the value of your business for each business owner
- Insure all business owners to the value of their share of the business valuation (+ any CGT liability).
- Document your plans and agreements in a legally drafted Buy & Sell Agreement.
- Store the executed document in safe keeping, preferably offsite (we can help with Key Document Storage).
- Meet with your Sapience Business Financial Advisor every 2-3 years to review the business valuation is still current and adjust your insurance as needed to match any future valuation increase.
This way all the business owners (and their families) can have certainty there's a legal agreement in place, just in case, to provide certainty and clarity about what happens if one of the business owners or partners unexpectedly exits the business.
Statistical Risk of Business Interruption increases with the Number of Business Owners
What's the point of a Buy & Sell Agreement?
A Buy & Sell Agreement is a contract between two or more business partners that govern how their own valuable interests in the business will be dealt with, in a range of foreseeable but unexpected scenarios, usually referred to as 'trigger events'.
Having a Buy & Sell Agreement in place will help:
- Preserve control by restricting transfers or sales of company shares to persons outside the company or the owner’s immediate family.
- Stabilise the business transfer of ownership, assets and operations during uncertain times.
- Provide cash or other assets (eg. through, life insurance proceeds) to the retiring or disabled owner or family of the deceased.
- Establish a suitable method for determining the future value of the business for estate tax purposes and the transfer or sale of company shares.
- Assure sufficient liquid assets are available to fund an owner's buyout, pay taxes, and meet the financial needs of surviving family members.
Frequently Asked Questions: Buy-Sell Agreements & Business Exit
What exactly is a Buy-Sell Agreement (BSA)?
Often referred to as the "Will of a Business," a Buy-Sell Agreement is a legally binding contract between business owners. It dictates exactly what happens to an owner’s shares if they pass away or become incapacitated. It ensures that the remaining owners can maintain control of the business while the departing owner’s family receives a fair, pre-agreed cash payout for their interest.
What is the biggest risk of NOT having a BSA in place?
The "Perfect Storm." Without a BSA, you lose control over who your next business partner will be. You could find yourself legally tethered to your former partner’s spouse or executor—people who may have no business experience but hold full voting rights and the power to demand immediate repayment of owner's accounts, potentially bankrupting the company.
How do we determine a fair price for the business in the agreement?
A strong BSA removes the emotion from the valuation. Instead of negotiating during a crisis, you pre-agree on a Valuation Method—such as a specific EBIT multiple or an independent appraisal. This ensures the departing family is treated fairly and the surviving partner isn't overpaying, preserving both the business and the personal relationships involved.
What are the 'trigger events' that activate a Buy-Sell Agreement?
While death is the most obvious, a comprehensive BSA covers a range of "unplanned exits." These typically include Total and Permanent Disability (TPD), a major medical trauma (like a heart attack or stroke), or the loss of cognitive capacity. Some advanced agreements also include "Business Divorce" clauses for irresolvable partner disputes.
Why is insurance considered the best way to fund a buyout?
It’s about Liquidity. Most businesses don't have hundreds of thousands of dollars in spare cash sitting in a bank account. By using Life and Disability insurance to fund the BSA, the cash is delivered exactly when the "trigger event" occurs. This allows the remaining partners to buy out the shares instantly without taking on massive debt or selling off essential business assets.
Call us today on 1300 137 403 or email us here for a no-obligation private chat about your situation.
Drew Browne is a specialty Financial Risk Advisor working with Small Business Owners & their Families, Dual Income Professional Couples, and diverse families. He's an award-winning writer, speaker, financial adviser and business strategy mentor. His business Sapience Financial Group is committed to using business solutions for good in the community. In 2015 he was certified as a B Corp., and in 2017 was recognised in the inaugural Australian National Businesses of Tomorrow Awards. Today he advises Small Business Owners and their families, on how to protect themselves, from their businesses. He writes for successful Small Business Owners and Industry publications. You can read his Modern Small Business Leadership Blog here. You can connect with him on LinkedIn. Any information provided is general advice only and we have not considered your personal circumstances. Before making any decision on the basis of this advice you should consider if the advice is appropriate for you based on your particular circumstance.
