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Protecting the Business From the Disability and Death of an Owner or Key Employee
To the business owners we surveyed*, protecting the business in the event of death or disability had the second and third highest level of importance, respectively, mentioned right after keeping key employees loyal. Disability is slightly more of a concern than death (44% versus 42%, respectively), which is a shift from MassMutual’s prior research in 2011. This is not necessarily surprising when you consider that just over 1 in 4 of today’s 20 year olds will become disabled before reaching retirement age.1
However, these two events were not very top of mind, with 55% saying they rarely or never think about the effect of disability and 59% saying they rarely or never think about the effect of death. Couple that with the fact that only 44% have a buy-sell agreement in place and you can see that many businesses may be left unprotected should an unforeseen and unfortunate event occur.
A buy-sell agreement should be designed to protect the business from the five D’s – death, disability, divorce, departure and disqualification. When properly executed, a buy-sell agreement can help ensure the continuity of the business when ownership needs to change hands for any reason. It is a legally binding agreement that requires one party to sell and another party to buy ownership interest in a business when a triggering event occurs, such as the death, disability or retirement of an owner.
A buy-sell agreement must also be properly funded. Funding buy-sell agreements with insurance products, specifically life insurance and disability buy-out insurance, is often the most effective method. These products make it possible for the remaining owner to purchase the business interest of the departing owner, or his/her family, without liquidating business assets or taking cash out of the business.
According to our study, of those with a buy-sell agreement in place, just over half say it is funded with life insurance, but only 5% say it is funded with disability buy-out insurance. The rest are either funded with cash flow from the business or not funded at all.
Finally, it is generally recommended that a buy-sell agreement be reviewed at least every three years. According to our study, one out of every three buy-sell agreements may be stale.