Traditionally, we think of life insurance companies and what they offer in pretty simple terms – i.e. the insured owns a life insurance policy and names a spouse or loved one as the beneficiary. When the insured passes away, the beneficiary receives the proceeds. Simple as that…
Now let’s take a look at one way life insurance can be used to help small business. In this example, two partners, Brain and Darren, used a life insurance cross-purchase plan.
Background: Brian and Darren met at college. Brian majored as a Mechanical Engineer, while Darren focused on Marketing and Business Management. Their senior thesis was a feasibility study and business plan for a start-up business that designs, engineers, and installs alternative energy sources for single family residences.
Shortly after graduation, Brian and Darren started their business and became equal partners. In the ensuing years, Brian got married and had 2 children while Darren continued to enjoy his single life. It wasn’t long before the business really began to take off.
Problem: While meeting with his CPA, Darren was presented with an interesting question; what would happen to the business if Brian Died? Darren thought about it for a moment and contemplated his options. Here’s what he came up with:
1 – Become partners with Brian’s wife, who knows nothing about the business
2 – Buy out Brain’s wife and become 100% owner of the business
3 – Find a new partner to replace Brian who could invest and buy out Brian’s wife
Although the business was now thriving, none of these options seemed feasible. Option 2, buying out Brian’s wife seemed the most logical, but how would Darren afford to buy out Brian’s wife? Then Darren thought, “what happens if I die? What would Brian do if faced with the same decision?”
Solution: As part of a larger plan known as a buy/sell agreement, and after researching options with various life insurance companies, Brian and Darren were advised to purchase life insurance policies on the lives of each other. They estimated how much money the surviving partner would need to buy out the deceased partner’s share, and structured 2 separate life insurance policies accordingly. They structured the two policies in accordance with a buy/sell agreement so that in the event one of them were to pass away, the other would use the life insurance proceeds to pay for the deceased partner’s share of the company.
A cross-purchase plan allowed Darren and Brian the peace of mind that either of them could now afford to purchase the other partner’s share of the company in the untimely event of their death. A cross-purchase plan structured within a well designed buy-sell agreement is just one of the many ways life insurance can be used outside of the traditional means that we so commonly think of. Enjoy Life!