Funding Stock Buy-Sell Agreements

"Within a closely held corporation, shareholders are often concerned about what might occur if one of the owners dies. Will the deceased shareholder’s family retain the economic value of the corporate interest? Can the surviving owners avoid interference from the deceased shareholder’s family? Will the survivors have the economic resources to redeem the deceased owner’s interest? Given these concerns, corporate owners are best served by entering into a buy-sell agreement while they are all alive.

Owners usually choose from two basic types of buy-sell agreements. With a cross-purchase agreement, each owner of the corporation purchases an insurance policy on the other shareholders. The purchaser is both owner and beneficiary of the policies. Upon the death of a shareholder, the other shareholders are then able to use the life insurance proceeds to purchase the deceased owner’s shares. Another commonly used type of agreement is a stock redemption agreement, in which the corporation owns policies on the lives of the shareholders. When a shareholder dies, the corporation buys the deceased shareholder’s interest in the company with the insurance proceeds."

For a good discussion of the tax implications of funding such agreements with life insurance and other issues, see this article from the New York Society of CPAs.