If a partner dies or becomes disabled, who buys their shares — and with what money? A funded buy-sell agreement answers both questions before you need the answer.
Two or more people own a business. One dies. Their shares pass to their estate — typically their spouse, who may have no involvement in or knowledge of the company. The surviving owner now has a business partner they did not choose, and the spouse holds an illiquid asset they cannot easily sell and probably do not want.
Neither party is well served. A buy-sell agreement fixes this in advance by requiring the surviving owner, or the company, to buy the departing owner's shares at a pre-agreed price.
The gap worth checking: a great many shareholder agreements contain a buy-sell clause with no funding mechanism behind it. The obligation is real, the money is not. When the trigger event arrives, the surviving owner is left to drain working capital, borrow against the business, or default on the agreement.
Each shareholder owns a policy on each of the others. On death, the survivor receives the proceeds personally and buys the shares directly from the estate. This gives the surviving shareholder a step-up in the adjusted cost base of the acquired shares — valuable on a future sale.
Practical limitation: the number of policies grows quickly. Two shareholders need two policies; four need twelve. It becomes unwieldy past three owners.
The corporation owns policies on each shareholder and uses the proceeds to redeem the deceased's shares. Simpler to administer — one policy per shareholder regardless of how many there are — and premiums are paid with corporate dollars. The death benefit above the adjusted cost basis credits the Capital Dividend Account, allowing tax-free distribution.
Trade-off: no cost base step-up for the surviving shareholders.
Hybrid structures exist that preserve flexibility to choose at the time of the event. Which approach is right depends on the number of shareholders, the corporate structure, and the tax positions involved — a conversation for you, your accountant, and us together.
A partner who becomes permanently disabled presents a harder problem than one who dies. They are still alive, still a shareholder, often still drawing compensation, and no longer contributing. Relationships that survived years of business pressure frequently do not survive this.
Disability buy-out insurance funds the purchase of a disabled partner's shares, typically after a waiting period of a year or two. It is a materially more likely scenario than death during working years, and it is far less commonly covered.
Succession is broader than the agreement. Whether you are transitioning to family, selling to a third party, or planning a management buyout, the questions overlap: what is the business worth, how does the buyer fund it, what tax arises on the transfer, and how do you extract value without triggering a bill that consumes it. We handle the insurance and funding side and coordinate with your accountant and lawyer on the rest.
A legally binding agreement among business owners that sets out what happens to an owner's shares if they die, become disabled, retire, or otherwise leave. It establishes who must buy, at what price, and on what terms. Properly done, it is funded with insurance so the money is actually available when the obligation is triggered.
The deceased owner's shares pass to their estate under their will. The surviving owner may find themselves in business with a spouse or adult child who has no involvement in the company, no interest in running it, and no obvious way to sell an illiquid minority stake. Disputes over valuation and control are common, and the business often suffers considerably while they are resolved.
Common approaches are a formula based on earnings or revenue multiples, a fixed price reviewed and updated annually by the shareholders, or an independent appraisal triggered at the time of the event. Each has trade-offs — formulas can drift from reality, fixed prices go stale if not maintained, and appraisals take time and cost money. The important thing is that the method is agreed in advance rather than negotiated during a crisis.
In a cross-purchase, each shareholder personally owns a policy on the others and buys the shares directly, which gives the buyer a step-up in adjusted cost base. In a share redemption, the corporation owns the policies and redeems the shares itself, which is simpler to administer with several shareholders and uses corporate dollars for premiums, but provides no cost base step-up. The right choice depends on shareholder count, corporate structure, and tax position.
Yes, and it is frequently overlooked. During working years a permanent disability is statistically more likely than death, and it is arguably the harder situation to manage — the partner is still a shareholder, often still drawing income, and no longer able to contribute. Disability buy-out insurance funds the share purchase after a defined waiting period and removes what is otherwise a very difficult conversation.
The clause tells you what should happen. Insurance is what makes it possible.
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