What Is a Buy-Sell Agreement?

When a business owner dies, the disposition of his or her business interest can become a two-edged sword, creating problems for the business owner's heirs as well as the business itself. Critical questions must be answered:

Who will purchase the business interest?
What is a fair price?
When will the sale be made?
Where will the funds come from?

This "disposition dilemma" is easily resolved when a buy-sell agreement is established. This agreement provides that:

someone (e.g., the business entity, the surviving owners, or a key employee) will purchase a deceased owner's interest at an agreed-upon price, and
the deceased owner's estate is obligated to sell the interest at that price.

The Purpose of Buy-Sell Agreements

For illustrative purposes, imagine yourself in partnership with two associates. The other two partners are Bob and Elaine. If Bob dies, his business interest passes on to his estate, and ultimately to his wife, Megan. Unfortunately, Megan knows nothing about the business. You and Elaine do not want to form a new partnership with Megan as a business partner, and you don't want Bob's interest sold to an outsider.

It should be added that Bob and Elaine face the same dilemma regarding your heirs. Fortunately, if a buy-sell agreement is in place, none of these potential problems will arise. All the owners know who will receive the deceased owner's business interest as well as how much will be paid for that interest.

A properly drafted buy-sell agreement:

minimizes the possibility that the business might fall into the hands of outsiders
minimizes the possibility that the parties involved will not be able to agree on a proper value for the business and puts everyone on equal footing while all the parties are alive
minimizes the possibility that funds will be unavailable to make the purchase
provides a deceased owner's estate with needed liquidity by converting an illiquid asset into cash.

It's easy to see why a buy-sell agreement is so valuable. It helps assure business continuity for the surviving owners and fair treatment of the deceased owner's heir(s).