Legal Definitions - cross-purchase buy-sell agreement

A cross-purchase buy-sell agreement is a legal contract among the co-owners of a business that dictates how one owner's share will be bought out by the other individual owners if a specific event occurs. These events, often called "triggering events," can include an owner's death, disability, retirement, or departure from the business.

Instead of the business entity itself repurchasing the shares, each remaining owner directly purchases a portion of the departing owner's interest. This arrangement is frequently funded by life insurance policies, where each owner holds a policy on the lives of the other owners. When a triggering event like death occurs, the surviving owners use the insurance proceeds to buy the deceased owner's share directly from their estate.

• Example 1: Professional Services Firm

  Imagine three partners, Dr. Anya, Dr. Ben, and Dr. Carla, who own a thriving dental practice. They want to ensure that if one partner dies, the practice can continue smoothly without the deceased partner's family becoming co-owners or forcing a sale of the entire business. They establish a cross-purchase buy-sell agreement. Under this agreement, Anya purchases a life insurance policy on Ben and Carla, Ben purchases policies on Anya and Carla, and Carla purchases policies on Anya and Ben. If Dr. Ben unexpectedly passes away, Anya and Carla would use the proceeds from the life insurance policies they held on Ben to purchase his ownership share directly from his estate. This allows Ben's family to receive fair compensation for his stake in the practice, while Anya and Carla maintain full control and continuity of the business.

• Example 2: Manufacturing Company

  Consider a small manufacturing company co-owned by siblings David and Emily. They have built the business together and want to ensure that if one of them dies, the other can acquire the deceased sibling's shares to maintain sole control and prevent potential disputes with heirs. They enter into a cross-purchase buy-sell agreement. David purchases a life insurance policy on Emily, and Emily purchases a life insurance policy on David. If Emily were to die, David would use the insurance payout from the policy he owns on Emily to purchase her shares directly from her estate. This arrangement allows David to become the sole owner, preventing Emily's heirs from becoming co-owners and ensuring the business can continue its operations without disruption or the need to bring in an unfamiliar partner.

• Example 3: Tech Startup Founders

  Sarah, Tom, and Uma are the three founders of a rapidly growing tech startup. They want to protect the company's future and ensure that if one founder decides to retire or leave the company, the remaining founders can acquire their equity without the shares being sold to an outside investor or competitor. They implement a cross-purchase buy-sell agreement. While life insurance is common for death, the agreement also specifies a valuation method for other triggering events like retirement. If Tom decides to retire, Sarah and Uma would use their personal funds (or other agreed-upon financing, as insurance wouldn't apply here) to buy Tom's shares directly from him, based on the valuation method outlined in their agreement. This mechanism allows Sarah and Uma to maintain their ownership percentages relative to each other and prevents Tom's shares from being sold to an outsider, thereby preserving the original vision and control of the company.