People enter business ownership relationships with the hope that the relationship will continue for as long as the business operates. However, despite the excitement of a new business, it is important to be realistic. A co-owner may want to leave the business in the future and all of the business owners must protect themselves for that possible, or probable, occurrence. For example, a co-owner may decide that it is time to retire, relocate, or simply pursue other business options. In the case of a family business, a co-owner may leave the business after a divorce or family argument. In these cases there may be considerable bad will among the co-owners.
Business co-owners can protect themselves by executing a legal arrangement at the beginning of the partnership, when everyone is focused on forming the business and no one is even considering leaving the business. This type of buyout agreement explains how a co-owner may sell his or her interests by setting the terms and price.
How a Buy Sell Agreement Can Protect a Family Business
A buy-sell arrangement or “business will” protects a family business the same way that it protects other businesses but it also provides additional protections. The most important protections come into play when a co-owner is getting divorced. If the co-owner is related to the other owners by marriage then it may be advisable for that owner to sell his or her ownership share and the “business will” can detail how that will happen.
Also, and equally important, when a co-owner gets divorced his or her ex-spouse may be entitled to an ownership share of the business in a divorce settlement. In community property states, spouses have a right to property, such as business ownership, that was acquired during the marriage. In separate property states, spouses can argue that they are entitled to a percentage of the business ownership because such a division would be equitable. Thus, a business could face a situation where the ex-spouse of a family business owner is now a co-owner.
This type of situation can be avoided with a properly drafted buyout agreement that requires the ex-spouse of the business owner to immediately sell back his or her ownership in the company that was granted in the divorce. The agreement should specifically define how the price will be determined.
Buy sell events can also help lower taxes. If a business involves multiple generations of a family for example, and it is reasonably anticipated that the older generation will retire or die before the younger generation, then the agreement can determine how the younger generation can purchase the shares of the retiring or deceased owners. While the price must be fair, a lower sales price at the time of retirement or death and can lower the tax obligations.
Buyout agreements are important for all businesses including family owned businesses for the reasons described above. If you are starting a business it is important to consider providing you, and your co-owners, with the important protections that a properly drafted buy sell agreement can provide.
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