Buy-Sell Planning For Unhealthy Business Owners
In the course of designing a business continuation plan, many times one of the partners or stockholders may be either uninsurable or heavily rated.
This, however, should not stand in the way of completing the development of a buy-sell plan. In fact, if one of the owners has impaired health, implementation of a business purchase plan becomes even more imperative.
In the case of a business owner who is rated but still insurable, issuance of the policy and payment of the rated premium is usually the wise course, since the amount of rating attached to the premium represents a fair assessment of the owners shorter life expectancy. But if the rated premium is more than can be afforded or if the business owner is completely uninsurable, then other solutions will have to be found.
There are a number of possible ways to approach this problem. Most of these strategies are based on the idea that some sort of sinking fund is desirable to provide the funds that will be needed to purchase the business interest of the uninsured owner at his or her death. If the solution involves an insurance company product, there are certain advantages not found in other methods.
Two methods that do not use a sinking-fund approach anticipate settling the obligation created by the death of an owner with cash taken from the then-existing assets of the business or with an installment payment of the purchase price. Both of these methods suffer from uncertainty. The owners death may create other demands on the businesss cash flow that will make it impossible to buy out the owners business interest. Installment sale agreements may not be completed because successor management may be unable to generate sufficient earnings to pay the obligation.
Here are some alternative methods that may prove to be more attractive to the uninsurable business owner.
Using Existing Insurance
If the uninsurable business owner has surplus personal insurance, this can be used to fund the buy-sell agreement. When a policy is transferred to a partner, a partnership or a corporation, the problem of the “transfer-for-value” rule under Internal Revenue Code Section 101(a)(2) is avoided since these transfers are exceptions to this rule. Be aware, however, that the transfer of existing insurance owned by a stockholder to a co-stockholder to fund a stockholders cross-purchase agreement will “taint” the policy under the transfer-for-value rule.