Considers several options business owners face when planning for the continuation of the business in the event of death or disability.

1. Buy-Sell Planning © 2010 VSA, LP Valid only if used prior to January 1, 2011. The information, general principles and conclusions presented in this report are subject to local, state and federal laws and regulations, court cases and any revisions of same. While every care has been taken in the preparation of this report, neither VSA, L.P. nor The National Underwriter is engaged in providing legal, accounting, financial or other professional services. This report should not be used as a substitute for the professional advice of an attorney, accountant, or other qualified professional.

5. Practical Consequences at the Death of a Partner or Shareholder: The heirs of a deceased partner or closely-held corporate shareholder now own an interest in the business. In the absence of advance planning, the heirs: Is one or more of the heirs qualified and willing to assume an active role in managing the business? Do the surviving owners want to be in business with the deceased owner’s family? Can Become Active in the Business

6. Practical Consequences at the Death of a Partner or Shareholder: The heirs of a deceased partner or closely-held corporate shareholder now own an interest in the business. In the absence of advance planning, the heirs: Will the heirs and the surviving owners be able to agree on a price? How will the surviving owners fund the purchase? Will the heirs sell to outsiders, leaving the surviving owners to work with a new owner selected by the deceased owner’s family? Can Sell Their Business Interest Will the surviving owners be willing and able to support the deceased owner’s family, as well as their own? Will the interests of the surviving owners and the heirs in running the business be compatible? Can Remain Inactive

7. Problems Faced by the Heirs: When a business owner dies, the heirs may be faced with a number of problems, including: Will there be a ready market for a small business? Market Will there be sufficient liquidity in the deceased owner’s estate to pay estate taxes and other administrative costs without selling the business interest, which may make up the majority of the estate? Estate Liquidity The heirs may need income from the business. Will this need for income conflict with the surviving owners’ salary expectations and desire to reinvest in the business? Need for Income

8. There is, however, another alternative… Problems Faced by the Heirs: In many small businesses, the most sensible course of action is for the surviving owners to buy the deceased owner’s partnership interest or stock from the heirs. While the surviving owners are the ideal market for the business interest, additional problems can arise in the absence of advance planning: Will the heirs and surviving owners be able to agree on a price? How will the surviving owners fund the purchase? Without advance planning, the surviving owners may find themselves in business with outside buyers, or in a bidding competition with outsiders who want to acquire an interest in a successful, established business.

9. A Potential Solution Using Life Insurance: In many partnerships and closely-held corporations , an answer to the problems arising at the death of an owner may be for the surviving owners to acquire the deceased owner’s interest in the business for its fair market value. When business owners enter into a binding buy-sell plan that is funded with life insurance, the surviving owners will have the cash to purchase a deceased owner’s interest for a previously agreed-upon price that is fair to the heirs. In the case of a sole proprietorship , if a potential purchaser exists, an insured buy-sell plan can provide for an orderly transfer of business ownership at the sole proprietor’s death.

11. How Can a Buy-Sell Plan Be Funded? There are FOUR ways business owners can fund a buy-sell plan: Installment Method The purchase price could be paid in installments after an owner’s death. For the surviving owners, this could mean a drain on business income for years. In addition, payments to the surviving family would be dependent on future business performance after the owner’s death. 2. Cash Method The owners could personally accumulate sufficient cash to buy the stock at an owner’s death. Unfortunately, it could take many years to save the necessary funds, while the full amount may be needed in just a few months or years. 1.

12. How Can a Buy-Sell Plan Be Funded? There are FOUR ways business owners can fund a buy-sell plan: Insured Method Only life insurance can guarantee that the cash needed to complete the sale will be available exactly when needed , assuming that the business has been accurately valued (guarantee is based on continued claims-paying ability of the insurer). 4. Loan Method Assuming that the surviving owners could obtain a business loan, borrowing the purchase price requires that future business income be used to repay the loan PLUS interest. 3.

18. Insured Buy-Sell Plans Comparison: At an owner’s death, the business agrees to buy and each owner agrees to sell the business interest at a predetermined price. The business interest is then “retired,” having the effect of increasing each owner’s percentage of ownership. Purchase of the business interest at an owner’s disability or retirement can also be made part of the buy-sell agreement. Depending on the number of owners, each owner agrees to buy all or part of a deceased owner’s business interest, and each owner agrees to sell at a predetermined price. The deceased owner’s business interest is thus split among the surviving owners. Purchase of the business interest at an owner’s disability or retirement can also be made part of the buy-sell agreement. Description Entity Purchase Cross Purchase

19. Insured Buy-Sell Plans Comparison: The business pays the nondeductible premiums for all policies, which has the general effect of leveling premium payments among owners according to their ownership interest. Each owner pays the nondeductible premiums for the policy(ies) he/she purchases on the other owners. Premium Payments The business purchases one policy on the life of each owner in an amount equal to the value of that owner’s business interest. The total number of policies needed is equal to the number of owners. Each owner purchases a life insurance policy on each of the other owners in an amount equal to the purchasing owner’s share of the purchase price. The total number of policies needed it equal to: N x (N-1), with N = number of owners. Number of Life Insurance Policies Entity Purchase Cross Purchase

20. Insured Buy-Sell Plans Comparison: Death benefits are generally received income tax free by the business but may, in the case of a corporation, be subject to the corporate alternative minimum tax. When policy ownership is properly arranged, the death benefits will not be included in the deceased owner’s estate. Death benefits are generally received income tax free by the surviving owners. When policy ownership is properly arranged, the death benefits will not be included in the deceased owner’s estate. Taxation of Death Benefits The business should be the owner and beneficiary of the life insurance policies. Each business owner should be the owner and beneficiary of the policy(ies) he/she purchases on the other owner(s). Policy Owner and Beneficiary Entity Purchase Cross Purchase

21. Insured Buy-Sell Plans Comparison: Does not increase. Increases to the extent of their purchase price. Surviving Owner’s Tax Basis If the amount received by the deceased owner’s estate equals the fair market value of the business interest at the owner’s death, there will be no taxable gain for federal income tax purposes. If certain requirements are met, the purchase price defined in the buy-sell agreement may fix the value of the business interest for federal estate tax purposes. If the amount received by the deceased owner’s estate equals the fair market value of the business interest at the owner’s death, there will be no taxable gain for federal income tax purposes. If certain requirements are met, the purchase price defined in the buy-sell agreement may fix the value of the business interest for federal estate tax purposes. Taxation of the Sale (prior to 2010) Entity Purchase Cross Purchase