Evaluating a suitable exit strategy entails
weighing both retirement income goals
and estate-planning considerations.
“Many business owners who have worked
for decades to build a business believe that
they cannot afford to retire because they are
largely dependent upon their business for
immediate cash needs,” says Larry Parkin,
senior vice president of SunTrust Bank in
Pinellas and West Pasco counties.
Smart Business talked to Parkin about
the importance of a good retirement plan.
What types of exit plans are available to
business owners?
There are only three dispositions or exit
strategies that one can execute with a business during the lifetime or at the death of a
business owner. It can be sold, liquidated or
gifted away. Certainly, a sale would generate
more revenue for the business owner and/or
his or her family than either a liquidation or
gift of the business. Without proper planning, the business may be worth far less, if
not become entirely worthless, upon the
death, retirement or disability of the owner.
The key to any successful sale requires that
business owners work closely with their
successors and have a competent and complementary team of financial advisers working together for the common good of both
the selling and purchasing shareholder.
A well-formulated exit strategy also provides confidence to business lenders, customers and vendors. All decisions need to
be coordinated with the selling shareholder’s retirement situation to ensure that
business and estate-planning factors do not
compromise the ability of the selling shareholder to maintain an attractive lifestyle in
retirement. To facilitate this process, a
funded buy-sell agreement is oftentimes
the preferred medium to maintain the business for the new owners while providing
for the long-term income and liquidity
needs of the selling shareholder and his or
her family. Indeed, even in sole owner situations, an exit strategy is necessary. In
these situations, the business owner often-times seeks out a key employee, supplier
and/or competitor to purchase his or her
business interest.
What is a buy-sell agreement?
A buy-sell agreement has been used for
many purposes over the years. It can be utilized as a tool to either restrict the transfer
of shares and/or establish a value of the
shares for estate tax purposes. Most importantly, it can be viewed as a means of effectuating control over a closely held business
by limiting transfers to unrelated parties,
while also providing a market and liquidity
for the interest of a selling shareholder
and/or his or her estate. A proper buy-sell
agreement can also eliminate the need for
expensive business appraisals. The well-designed buy-sell agreement should also
take into account the business owner’s
death as well as other possible triggering
events for a lifetime transfer, such as retirement, disability, gifting and other life events.
How is a buy-sell agreement structured?
There are three basic types of buy-sell
agreements: (1) the stock redemption agreement, (2) the cross-purchase agreement,
and (3) the hybrid agreement. The stock
redemption agreement entails an arrangement between the business and business
owner whereby the business owner agrees
to offer his or her interest to the business at a certain price under certain specified conditions. The agreement is generally binding
upon both the shareholder and his or her
estate. A cross-purchase agreement is a contract among the owners of a business
whereby each agrees to buy the interest of a
departing shareholder under certain conditions at a price determined under the agreement. A hybrid agreement is a combination
of a redemption and cross-purchase agreement. In most instances, the business interest is first offered to the remaining shareholders and, if that right is not exercised, it
is offered to the business itself.
How is a buy-sell agreement funded?
Generally, life insurance is the preferred
tool to fund a buy-sell agreement. With a
redemption agreement, there is a need for
only one policy per stockholder. A cross-purchase agreement requires each shareholder
to own separate policies on the lives of all
other owners. The most common triggering
events in a buy-sell agreement are death, disability and retirement. While life insurance
proceeds are available in the event of death,
funding for either disability or retirement is
more complicated. To lessen the impact on
the business and/or shareholders, agreements typically provide for a modest lump
sum plus installment payments payable out
of business cash flow and/or assets. For disability, a disability insurance policy may be
utilized. Loans against policy cash values can
also be used to fund a buyout in the event of
retirement or disability.
SunTrust Private Wealth Management is a marketing
name used by SunTrust Banks, Inc., and the following affiliates: Banking and trust products and services are provided
by SunTrust Bank. Securities, insurance and other investment products and services are offered by SunTrust
Investment Services, Inc., an SEC registered investment
adviser and a member FINRA and SIPC.