Why Shareholder Buy-Sell Agreements Matter for Family Businesses

Buy-sell agreements are an essential part of your personal and business estate planning process. They may not be the most “fun” part, but they get a lot of hard questions answered in writing.

It’s your opportunity, along with the members of your family who own the business, to figure out what you will do as a family in any given situation. The more owners there are, the greater the need for you to make the company’s plan legally clear, in a way everyone agrees to.

You can use shareholder buy-sell agreements for all kinds of scenarios, but one of the most common reasons is preventing outside parties from becoming owners in a family business.

Without a clear buy-sell agreement, there isn’t much you can do to stop a family member who wants to sell their share of ownership to an outside party, if they want to. No matter their reasons for doing it, the simplest way to avoid that is to agree that it’s off-limits, in writing, ahead of time.

Now you might be thinking, “Hold on, Greg...I couldn’t get my cousin to sign one of those right now if I paid them to.” Well, there’s no such thing as a magic bullet! Some situations are well past the right time to do a buy-sell agreement.

The time for this strategy is now, assuming you’re not at war with other family members. And the best way to do it involves surrounding yourself with trusted advisors who can work with you and your family to create a workable buy-sell agreement.

Other Reasons You Need a Buy-Sell Agreement

Not everybody wants to be an owner

Family businesses usually restrict outside ownership. For a shareholder who needs or wants to sell, it gives them very few choices. If you make the path clear and flexible, you empower owners to their shares in the event they need to sell.

Direct descendants only

Sometimes, if you don’t have a buy-sell agreement worked out, ownership can fall to a son-in-law or daughter-in-law. That’s not to say that is bad but it can get complicated in estate law, even if you have a will and personal estate plan.

Dollar value of shares

If one owner wants to sell their interest, you need to agree ahead of time what procedure you’ll follow to value the share price. You also want to avoid stalemates, by settling on the appraisal terms – how many appraisers you’ll use, and so forth.

How to buy them out

Some family businesses are very large and buying another owner’s shares might mean financing. You need a structure in place to help other family members interested in owning the family business “buy out” the interest belonging to their relative.

Divorce and bankruptcy

Why let the courts decide your son’s ex-wife is qualified to own your family business? What would make you want to share authority in your business with a bankruptcy trustee?

Death and disability

If it’s not defined ahead of time, your family’s sure to have trouble figuring out “what’s what.” It’s better to know right away who succeeds you, and if it isn’t your spouse, you need a mechanism for that person to buy ownership from him or her.

How Buy-Sell Agreements Change the Game for Family Business

Like our Constitution, a buy-sell agreement tells each owner in a family business what they may or may not do without legal consequences.

It’s a roadmap, a game plan, to spell out your vision of surviving life’s twists and turns. It’s not the same as a vision statement – that’s more aspirational. This is your “backup plan.”

Here are some other questions it answers ahead of time:

Captive minority / non-voting owners

There’s nothing worse than being the owner of an asset you can’t sell because the business is closely held by other members of your family. A buy-sell agreement offers a way out if a minority owner disagrees with the direction of the company or has other circumstances where they’d rather part ways.

Transfer of shares by gift

You might have a perfectly good agreement when it comes to buying and selling shares, but vague (or no) language about “gifting” your shares. In ideal situations, a gift is just a gift...but in disputed situations, if it isn’t defined beforehand, it can add to contention between family members.

What qualifies as a trigger event

Although death can seal the deal, some family businesses would do well to include other triggers, such as:

1. Disability: What if an owner becomes disabled? Should disability trigger a buyout option in the business or for the remaining owners?

2. Termination of Employment: Are all owners employees of the business? Or are they all otherwise actively engaged in the business? What if an owner steps down, no longer plays an active leadership role, retires, or otherwise terminates employment with the business?

3. Pledging of an Owner’s Interest: While owners of a business may be hard-pressed to find anything positive about allowing an owner to pledge his or her interest as collateral for a loan, there may well be some benefit.

If you don’t have a binding buy-sell agreement in place, your business is at risk. Without a clear succession plan, disputes can arise among partners—or their surviving spouses—that lead to a loss of valuable time, increased expenses, and costly litigation. That’s why I cannot stress enough the importance of having a buy-sell agreement in place from the outset of any business relationship involving two or more people.

AUTHOR

Greg Lewis

Co-Founder/CEO

Tennessee Center for Family Business

615-513-9028

glewis@tncfb.com