What is a Triggering Event?
A triggering event in the context of a buy-sell agreement is the event that causes the business to rely on the provisions laid out in the agreement. A buy-sell agreement is meant to set out a clear, defined, and unbiased way of transferring ownership in times of crisis. Triggering events can be thought of as the circumstances that bring about this crisis.
Some of the most common triggering events are:
- Termination of a key employee with shares in the company
- An owner or shareholder retiring
In many cases, the buy-sell agreement simply keeps shares from falling into the hands of someone who is uninterested in the company.
What Are the Types of Buy-Sell Agreements?
There are two primary types of buy-sell agreements: the repurchase agreement and the cross-purchase agreement. In some cases, you can also go with a hybrid version of the two agreements.
A repurchase agreement simply requires the company to buy up the ownership interests of a party when a triggering event occurs. For example, if an owner were to retire the company would simply use the funds set aside for the agreement (more on this later) to purchase their shares. Each shareholder's' stake in the company would then increase proportionally.
In a cross-purchase agreement, shareholders are given the option of purchasing the exiting party's shares. Shares are generally purchased in a proportional manner, so each shareholder ends up with the same amount of ownership interest in the company.
A hybrid agreement is simply a combination of the first two types. Essentially, the company will have the first option to buyout the shares and the other shareholders will have the second option.
Generally, each type of buy-sell agreement ends up having the same result, the shares are purchased and each shareholder retains a stake in the business proportional to what they had before. The differences are in tax considerations and how you fund the agreement, which we'll talk about now.
How Can You Fund a Buy-Sell Agreement?
There are a few different ways to fund a buy-sell agreement. The exact method you choose will depend on the type of agreement and what options you have available to you.
One simple method of funding a buy-sell agreement is a cash fund. Cash funds have the benefit of being immediate and requiring little legal framework. The only issue is you never know who might suddenly die or decide to leave the company, and that makes it hard to determine the amount of cash you need to keep in the fund.
Another popular option is life insurance. You can find out more about the specifics of funding buy-sell agreements with life insurance in our other post here.
Buy-sell agreements can become quite complicated, and what works for one business may not work for another. At Summerlin-Roberts we work closely with you to draft an agreement that meets your needs and works within the constraints of your budget. Please contact us at Summerlin-Roberts today for more information on buy-sell agreements and how they can benefit your business.