A buy-sell agreement is written once, usually at formation or when a partner joins, and then it sits in a drawer. The life insurance bought to fund it is sized to the company as it was on that day. Ten years later the company has tripled and the policy has not moved. The agreement still works. The funding does not.
How the gap opens
Most funded buy-sell agreements are set up carefully. The owners agree on a valuation method, they sign cross-purchase or redemption documents, and they buy life insurance equal to each owner’s interest. At that moment the structure is sound.
Then the business grows. Revenue compounds, a new location opens, a competitor is acquired. The agreed value — whether it is a fixed number, a formula, or an annual appraisal — climbs with it. The death benefit on the funding policies, meanwhile, is whatever it was the day the policies were issued. Term coverage may even be shrinking toward a conversion deadline.
The result is an agreement that obligates the surviving owners, or the company, to buy a departing owner’s interest at a price the insurance no longer covers.
What the gap costs
When an owner dies and the funding falls short, the money has to come from somewhere:
- Company cash. Working capital that was funding growth now funds a buyout, often just as the business is absorbing the operational loss of the person who died.
- Bank debt. A loan to complete the purchase — assuming the bank will lend into a company that just lost a key owner, and on acceptable terms.
- An installment note to the family. The estate becomes a long-term creditor of the business, tying the deceased owner’s family to the fortunes and the management of a company they no longer have a voice in.
- A discount. The surviving owners and the family renegotiate, and the family accepts less than the agreement promised because the alternative is worse.
Each of these is a dispute between people who, until recently, were partners — and it happens in the weeks after a death, which is the worst possible time to be negotiating.
A buy-sell agreement with stale funding is not a plan. It is a disagreement waiting for the worst possible moment.
Closing it is a short exercise
Re-matching the funding to the agreement is not a large project. It usually takes one meeting and a round of underwriting:
- Confirm the current value. Apply the agreement’s own valuation method as of today. If the method itself is out of date — a fixed price nobody updated — that is a conversation for the owners and their attorney.
- Measure the shortfall. Compare the current value of each owner’s interest to the death benefit currently in place for that owner.
- Add coverage for the difference. New coverage sized to the gap, structured to match the agreement — cross-purchase policies owned by the individual owners, or entity-owned coverage for a redemption.
- Check the agreement type still fits. The number of owners, their ages, and the tax picture may have shifted enough that a hybrid structure now makes more sense than the original.
- Set a review cadence. An annual check, tied to the same date each year, so the funding tracks the value from here forward instead of falling behind again.
Who should look at this now
Any company where the buy-sell agreement is more than three or four years old and the business has grown materially since. Any company that has added or removed an owner without revisiting the funding. And any owner who cannot readily say what their agreement currently values their interest at, and how much insurance is actually in place against it.
If that describes your company, the review is worth doing before it is the thing everyone wishes had been done.