Because life’s journey is full of both long-awaited milestones and untimely surprises, succession planning is essential for ensuring your business and personal assets are protected and directed appropriately. Forming a well-drafted buy-sell agreement with your business partners, or using various transfer on death arrangements with your family members, is critical to a smooth transition when the next phase of life comes along. Having a plan in place helps prevent complications and the possibility of court involvement through litigation or probate.

Considerations for a Buy-Sell Agreement

1) Choose the Appropriate Triggers — Every buy-sell agreement contains various triggering events. The more common triggers are death, disability, divorce, termination, retirement, and voluntary withdrawal from ownership. A triggering event will determine when you may, or are required to, terminate and transfer your ownership interest in your company. Determining the appropriate triggering events in your buy-sell agreement requires a thorough discussion among all owners, creating a contract that takes into account everyone’s wishes. It is important to establish the exact circumstances under which a transfer of ownership would be sought. Not all triggers are the right choice depending on your future goals and the assets at hand.

2) Establish the Purchasing Price — There are a number of ways to approach setting a price for each owner’s share in a company:

  • The owners could agree upon a price at any time during their respective ownership. This method can be difficult to determine if the agreement takes place long before any triggering event.
  • An agreed upon valuation formula can be applied, calculating the company’s value at the time of the triggering event. A common formula is EBITDA (earnings before interest, taxes, depreciation and amortization).
  • Valuing the company based on the historical book value of the company is a simple and inexpensive pricing method but it does not take into account intangible assets and goodwill of the company.
  • The most common approach to determining fair market value is to hire an appraiser or a certified public accountant to perform an appraisal. A buy-sell agreement may also outline the method used to hire the CPA or appraiser.

3) Determine the Purchase Methodology— In most buy-sell agreements, the funds to purchase an owner’s share will most likely come from the company’s cash flow. The buy-sell agreement should detail the down payment percentage, generally ranging from 5-25% of the purchase price. The remainder is then set up into installment payments over a specified period of time usually ranging from 18 to 60 months. A rate of interest will also be established, and the balance of the payment terms will be evidenced via a promissory note. Shareholder personal assets and liquid funds can also be used to buy out a partner, but this method is not as common. In the case of the death of an owner, life insurance, if available, can be used to acquire the owner’s shares from the estate or beneficiaries. The availability and timing of the buyout is critical to avoid crippling the company’s cash flow and business.

Considerations of a Transfer on Death Plan

A transfer on death agreement allows the safe transfer of your business and personal assets to family and friends upon your death. Only about 50% of the states in the US have transfer on death statutes, which allow a person to own an asset and transfer that asset at his or her death. Transfer of death (TOD) agreements can be used by themselves or in conjunction with other estate planning techniques. Common uses of TOD documents are to transfer real property, bank accounts or shares of business entities.

While a last will and testament allows a person to bequeath assets to their beneficiaries, this estate planning approach still requires the probate process to legally transfer ownership. TOD arrangements offer a simple and less expensive alternative, and allow access to your assets almost immediately. TOD documents are also flexible and may be amended during your lifetime subject only to your incapacity.

Transitionary periods in your business and personal life can prove extremely stressful, but we can help make them less so. When considering means of succession planning, come to Pittman PC for the guidance to ensure the appropriate transfer of your assets and the continued success of your business.

Please call 317-636-5561 or send us an email to schedule an appointment.

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