How does Disability Insurance protect a Buy-Sell Agreement?

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Disability Buy-Sell Agreements

 

A detailed look at two ways to guard against potential liabilities when a significant shareholder becomes disabled.

Two strategies protect shareholders against the liabilities of another significant shareholder becoming disabled.

Criss-Cross Buy-Sell Agreement

• The agreement provides for a mandatory sale and purchase of an interest in the corporation once a shareholder has been disabled for a specified period.
• Shareholders own disability insurance on each other to fund the purchase.
• The agreement guarantees to purchase the disabled partner’s business interest throughout the policy’s payout period.
• Premiums are paid with after-tax income.
• Policyowners receive tax-free disability benefits.
• An allowable reserve can offset capital gains on the asset’s sale for a time if the entire proceeds are not collected upfront.
• Personally owned income replacement insurance is generally purchased in addition to the above coverage to provide an income (in addition to the buy-out benefit) to the disabled shareholder.

Corporate Share Redemption

• The agreement provides for the mandatory redemption of the shares once a shareholder has been disabled for a specified period.
• A taxable dividend, equivalent to the total amount of the purchase price, less the paid-up capital value of those shares, is deemed to have been received in the year in which the redemption of the shares takes place.
• The dividend is subject to the Dividend Tax Credit and the Alternative Minimum Tax rules.
• A lump-sum disability insurance contract owned by the corporation covers the funds required for the redemption.
• The corporation could pay out an amount in addition to the redemption value to cover taxes payable by the disabled shareholder.
• A promissory note can cover shortfalls in payment

Note: Life insurance taxation varies in accord with the strategies used by the life insurance specialist, changing legislation, and hiring an accountant to guide significant business strategies relative to succession or an estate.

 

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