Buy-Sell Planning Strategies For Competitive Business. insure invest retire. Business Planning

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1 Buy-Sell Planning Strategies For Competitive Business insure invest retire Business Planning

2 Why MassMutual? We recommend that you look to an insurance company with knowledgeable, experienced financial professionals. A company with a history of financial stability. That company is Massachusetts Mutual Life Insurance Company. MassMutual is ranked among the highest by the industry s leading rating agencies. Equally important, we are a Fortune 100 company 1 and fifth on Fortune s Most Admired list of health and life insurance companies 2. We have over a centuryand-a-half of satisfying the needs of our clients. And you can trust that we'll be here for you now and for as long as you need us. Financial Strength Ratings 3 Standard & Poor s Corp. A.M. Best Company Moody s Investors Service, Inc. Fitch Ratings AAA (ExtremelyStrong) A++ (Superior) Aa1 (Excellent) AAA (Exceptionally Strong) 1 Fortune magazine, April 30, 2007 (based on revenue). 2 Fortune magazine, March 19, This information is current as of August 1, Ratings are subject to change. Ratings apply to MassMutual and its subsidiaries C.M. Life Insurance Company and MML Bay State Life Insurance Company. The information provided is not written or intended as tax or legal advice and may not be relied on for purposes of avoiding any Federal tax penalties. MassMutual, its employees and representatives are not authorized to give tax or legal advice. Individuals are encouraged to seek advice from their own tax or legal counsel. Individuals involved in the estate planning process should work with an estate planning team, including their own personal legal or tax counsel.

3 Preserve your business s future... Why a business needs a buy-sell agreement As a business owner, the most important guarantees to you on the death of an owner are the continuity of the firm or the certainty that your estate will have an immediate guaranteed market for your interest at a fair market price. But these guarantees require sound advance planning. In the absence of such planning, problems can arise. Problems for the continuing owners The deceased owner s heirs may: Press for a job and an active role in management whether or not they have the capability or compatibility. Insist on dividends being paid, which may cause double taxation and impairment of the firm s ability to expand. Threaten to sell, or actually sell to outsiders. Call for liquidation, if they can t get their way with loss of jobs, income and wealth building opportunities for the surviving owners. Employees may: Feel insecure, and their morale may sag, along with their productivity. Look for new jobs further crippling the firm, leaving costly replacement problems. Creditors may: Tighten up on credit in light of the firm s weakened and uncertain condition.

4 Provide for your family and heirs... Problems for the deceased owner s heirs They are left with an asset of real value that has no guaranteed market at a fair price and represents a forced speculative investment in the business. They have lost the deceased owner s salary but receive no income to replace it. Since the estate tax value of the business interest is not pegged for estate tax purposes, an unnecessarily higher value may be included in the estate, resulting in larger estate settlement costs and less money for heirs. Heirs may have to press for liquidation of the business at distress prices to meet estate liquidity requirements, get the investment out of the business or try to replace the income lost on the owner s death. They may encounter delays in administration of the estate. Fortunately, these undesirable consequences can be minimized through the use of a buy-sell agreement. A buy-sell agreement is a legally binding contract that requires one party to sell and another party to buy a particular ownership interest in a business in the event of the death, disability or retirement of a partner or stockholder or upon certain other triggering events.these agreements may be used by any type of business entity: sole-proprietor, corporation, partnership, limited liability company (LLC), etc. Under this arrangement, when a partner or stockholder dies, if the provisions are carried out, the plan will assure the prompt and orderly sale of the interest for the benefit of the decedent s heirs, and continuity of the firm for the surviving partners or stockholders.

5 Protect your business and family... There are two basic forms of buy-sell agreements: An entity plan where the business agrees with each owner that upon death, disability or retirement of any owner, it will purchase that owner s entire interest at an agreed price. If the business is a corporation, the plan is generally known as a stock redemption agreement. In a partnership context, the plan is called a liquidation of interest. A cross purchase buy-sell plan where the remaining owners agree to purchase the withdrawing owner s entire interest at an agreed price. It is also possible that individuals who are not currently owners (such as employees, outsiders or family members) may be parties to the agreement. While the buy-sell agreement legally requires the survivors to buy and the estate to sell, it is technically only a bundle of promises, unless the survivors have the financial capacity to act immediately following an owner s death. In other words, a buy-sell agreement has a legal side (an agreement) and an economic side (providing dollars that will give the survivors the actual capacity to buy). Life insurance can be an excellent way to fund a buy-sell agreement. At Massachusetts Mutual Life Insurance Company, we have a variety of life insurance products that can be used with a buy-sell agreement. With our quality products, support and people, we are ready to show you how a buy-sell plan can work for you. To receive more information on designing a buy-sell plan to fit your specific business, contact your representative.

6 Pick a plan that works for you... Entity Plans vs. Cross Purchase Plans How They Compare Entity Plan Cross Purchase Purchaser of Interest The business. Surviving owner(s). Seller of Interest The Plan Legality of Arrangement Life Insurance Policies Number of Policies Required Premiums Claims of Creditors Taxability of Insurance Proceeds Alternative Minimum Tax (AMT) Value of Insurance Proceeds Includable in Estate Withdrawing owner or deceased owner s estate. Business agrees with each owner that, upon death of any owner, it will purchase the deceased owner s entire interest at an agreed price. Typically, state law requires a corporation to redeem from surplus only. Business is applicant, owner, premium payer and beneficiary of a policy on the life of each owner in an amount sufficient to meet the price in the agreement. Only one policy per owner is required. Business cannot deduct premium payments. Business creditors may enforce a claim against both the cash value and the proceeds of business-owned life insurance. Life insurance proceeds are generally received income tax-free. However, the corporate Alternative Minimum Tax (AMT) may apply. Receipt of death proceeds might trigger AMT for C corporation. No AMT for S corporation or partnership. If business has ownership and is beneficiary, only the value of business interest, not death proceeds, is includable. Withdrawing owner or deceased owner s estate. Surviving owners agree to purchase deceased owner s entire interest at an agreed price. Usually no restrictions. Each owner is applicant, owner, premium payer and beneficiary of a policy on each of the other owners (unless a trust is used). Formula for number of policies needed is n(n-1), where n = number of owners (unless a trust is used). Owners cannot deduct premium payments. Business creditors cannot reach cash values or proceeds of nonbusiness assets; however, each owner s creditors can. Life insurance proceeds received by surviving owners are income tax-free. No AMT. Value of policies on surviving owners includable in estate of deceased owner. Value of business interest includable in estate, not insurance proceeds.

7 Entity Plans vs. Cross Purchase Plans How They Compare Estate Tax Effects Tax Basis of Purchaser Percentage Ownership Ratios in Business by Survivors After Transfer Family Corporation Attribution Rule Transfer of Policies Change of Plan to Cross Purchase Change of Plan to Entity Purchase Entity Plan A properly drawn agreement may set value for federal estate tax purposes. In a C corporation, there is no increase in basis to surviving stockholders on redemption of decedent s interest. Value of survivor s stock is enhanced, but not the basis. A lifetime sale of stock after decedent s redemption results in more taxable gain. In an S corporation using cash accounting, it is possible to achieve a step-up in basis by electing a short tax year when a stockholder dies. In a partnership/llc, step-up in basis is achieved when insurance proceeds are allocated to capital accounts of surviving owners. Surviving owners percentage of ownership is increased by the amount redeemed/liquidated based upon their previous ownership. When related persons own stock and where a beneficiary of an estate owns stock, a redemption may result in a dividend taxable to the estate. Transfer of policies to surviving owners at death of one owner is not necessary. In a corporation, there is a transfer-for-value problem. N/A Cross Purchase A properly drawn agreement may set value for federal estate tax purposes. Purchasing owners increase their basis by price they pay for the decedent s interest. Subsequent lifetime sale results in less taxable gain to them. Surviving owners percentage of ownership can remain the same or change depending upon amount of the deceased owner s interest respectively purchased by each. No dividend problems when stock is purchased by surviving stockholders. The estate of the deceased owner will own policies on the lives of the surviving owners. Surviving owners may purchase policies on their lives from estate without transfer-for-value problems. N/A No transfer-for-value problem.

8 Massachusetts Mutual Life Insurance Company and affiliates, Springfield, MA Massachusetts Mutual Life Insurance Company. All rights reserved. MassMutual Financial Group is a marketing designation (or fleet name) for Massachusetts Mutual Life Insurance Company (MassMutual) and its affiliates. AS CRN