California Life-Only & Accident and Health AgentLife InsuranceMedium
A small business owner is establishing a Buy-Sell Agreement. The agreement specifies that upon the death of a partner, the surviving partners will purchase the deceased partner's share of the business. To fund this agreement, each partner purchases a life insurance policy on the lives of the other partners. What type of Buy-Sell Agreement funding method is this?
- AEntity Purchase
- BOne-Way Buy-Sell
- CCross-Purchase
- DStock Redemption
Show answer & explanationAnswer & explanation
Correct answer: C. Cross-Purchase
In a Cross-Purchase Buy-Sell Agreement, each owner purchases a life insurance policy on the other owners. Upon an owner's death, the surviving owners use the death benefit from the policies they own to buy out the deceased owner's interest.
Why the other options are wrong
- A. An Entity Purchase (or Stock Redemption) agreement has the business entity itself own policies on the owners and redeem the deceased owner's shares.
- B. A One-Way Buy-Sell typically involves one owner or the business buying out a single owner, not multiple partners insuring each other.
- D. Stock Redemption is another name for an Entity Purchase agreement, where the corporation buys back its own stock.
Cross-Purchase Buy-Sell Agreement
A business agreement where each co-owner purchases a life insurance policy on the other co-owners. Upon an owner's death, the surviving owners use the life insurance proceeds to buy the deceased owner's share of the business.
- Each owner insures other owners
- Surviving owners use proceeds to buy out deceased's share
- Common in partnerships and closely held corporations
Memory trick: Cross-Purchase: Partners cross-insure each other.