Buy-Sell Planning Agent Training Guide

Transcription

1 Advanced Sales Buy-Sell Planning Agent Training Guide Tutorial for use with: Buy-Sell Planning (Form 2412) Buy-Sell Planning Client Guide (Form 2301) ON-Net>Quick Hits>Advanced Sales>Buy-Sell Section Small Business Strategies & Solutions

2 Teach the basics about Buy-Sell Planning One way to grow your clientele in the small business owner market is to explain the importance of Buy-Sell agreements as part of their business continuation plans. A Buy-Sell agreement can ensure the smooth transfer of business interests after the loss of an owner. There are several Buy-Sell options depending upon the type of business (e.g., a partnership or a corporation) and there are different ways to use life insurance to fund Buy- Sell agreements. Use this guide to help train agency associates about the basics of Buy-Sell agreements and how to explain them effectively to clients. As you work your way through this guide, it shows you where to find information from Ohio National s collection of Buy-Sell materials. FOR YOUR MEETING, LOg in to these online resources: Connect to Advanced Markets Online>Business Insurance>Business Continuation available at ON-Net>Quick Hits>Advanced Sales>Advanced Markets Online>Business Insurance>Business Continuation Connect to Buy-Sell SalesMaker materials available at ON-Net>Quick Hits>Advanced Sales>AMOSalesMaker>Business* *SalesMaker is an electronic library of documents explaining several concepts on the business use of life insurance. Each SalesMaker document includes a summary of the topic and a graphical demonstration of how the topic can be applied. Connect to Brainshark multi-media presentations available at ON- Net>Quick Hits>Brainsharks>Advance Sales Brainsharks>Buy-Sell Planning Print materials to use at your meeting: Buy-Sell Planning available to order through the ON-Net Forms Catalog (Form 2412) Buy-Sell Planning Client Guide available to order through the ON-Net Forms Catalog (Form 2301)

3 Overview and plan design Start your meeting with a brief overview VIEW: Buy-Sell Agreements Brainshark presentation. SUMMARY: A Buy-Sell agreement is a contract providing for the sale of a business interest when a specified event happens. Generally, this event is the death of one of the businessowners but it can also be disability or retirement. A Buy-Sell agreement can accomplish the following goals: Defines the orderly transfer of a business interest on the death, disability or retirement of a business owner that permits retention of control by the remaining owners; Establishes the value of each owner s business interest for federal estate-tax purposes; Predetermines the price at which the purchaser agrees to buy and the owner agrees to sell interest in the business; Creates a ready market for each owner s business interest; Assures creditors and employees that the business will continue at an owner s death or disability; and Provides the money to fund the plan at the exact time it s needed. The Buy-Sell market SUMMARY: The market potential for Buy-Sell sales is enormous. Every small business should have an agreement and every agreement should be funded. Begin your discussion by reviewing the list of business entities for which the Buy-Sell need exists. Sole proprietorship Working with the sole business owner Partnership Agreement designed for two or more business partners Closely-held corporation Agreement protects interest of the entity or its shareholders S corporation Agreement protects interest of the entity or its shareholders Buy-Sell Planning Brainshark audio-visual presentation (for Rep use only) can be found at ON- Net>Quick Hits>Brainsharks> Advanced Sales Brainsharks> Buy-Sell Planning page 3 of the Buy-Sell Planning TALKING POINT: Selling Points With a Buy-Sell agreement, the parties involved can accomplish their goals. After an owner s death, the surviving business owners have the opportunity to purchase the deceased s business interest at a previously agreed-upon fair price with the available funds. The deceased owner s heirs receive a fair price in exchange for the business interest, with the nonliquid business interest being converted to cash.

4 pages 4-7 of the Buy-Sell Planning TALKING POINT For federal tax purposes, a sole proprietor is not considered to be an employee. In this regard, sole proprietorships may set up various employee benefits (health plans, etc.) but may not deduct the cost of those plans for themselves. Sole proprietorship Summary: It s important during your training to explain the differences between the business organizations. Begin your discussion with sole proprietorship. Basic Characteristics: The sole proprietorship is a business owned entirely by one person who receives all of the profits and assumes all of the risks of the business. A sole proprietorship has no separate legal identity apart from that of the sole proprietor. As a result, any liability incurred by the business is also incurred personally by the owner. Discuss: Spend a few minutes discussing the general tax implications for sole proprietorships, including tax consequences to the business purchaser and to the decedent s estate. Sole Proprietorship Buy-Sell SUMMARY: The Buy-Sell method used for sole proprietorships is the crosspurchase method. Use the information on pages 5-7 of the (Form 2412) to explain a cross-purchase Buy-Sell agreement and to highlight the basic points of what this type of agreement must contain. Sole Proprietor Business Interest Key Employee Ohio National Ohio National Death Proceeds Key Employee Purchase Price Business Interest Sole Proprietor's Estate

5 Sole proprietorship policy ownership The traditional ownership and beneficiary designations should almost always be implemented, as noted below. Purchaser of the business owns the policy. Purchaser of the business is the beneficiary. Policy is insuring the businessowner. When the businessowner dies, the purchaser receives the death benefit and uses the death benefit to purchase the business interest. Continue the policy ownership discussion by covering the following points: Tax consequences to the business purchaser; Tax consequences to the decedent s estate; Funding the Buy-Sell with life insurance; and Transfer of the business interest by will. pages 6-7 of the Buy-Sell Planning Partnership SUMMARY: The next business organization to cover in your meeting is the partnership. Basic Characteristics: A partnership is an association of two or more persons to carry on as co-owners of a business for profit. Most partnerships are general partnerships, with all partners having authority to do business in the firm s name. General partners share in the profits, as well as the personal liability for the firm s business debt. There should be a written partnership agreement. Discuss: Complete tax implications are presented on pages 8 and 9 of the. Taxation rules for a partnership are very similar to those for a sole proprietor. pages 8-15 of the Buy-Sell Planning TALKING POINTS Taxation: The partnership is not a separate tax-paying entity. It is, however, required to file an information return that shows the partnership s profits and losses and each partner s proportionate share in these items. Follow your tax discussion by going over what may happen after the death of a partner. Note that when a partner dies, the partnership is instantly and automatically dissolved.

6 page 11 of the Buy-Sell Planning Partnership Buy-Sell SUMMARY: In most cases, the best solution to the problems that arise when a partner dies is a plan drawn up beforehand whereby it is determined what happens to the deceased partner s business interest. This requires a definite Buy-Sell agreement in writing, binding on all covered by it and adequately funded. There are two types of Partnership Buy-Sell plans: Cross-Purchase, and Entity-Purchase Cross-Purchase Plan Tax consequences to surviving partners: Death benefit proceeds pass income-tax free to surviving partners. Premium payments are considered nondeductible personal expenses. Discuss tax consequences in more detail using information on pages Advantages of the Partnership Cross-Purchase Plan Partners own and are beneficiaries of insurance on lives of copartners. The premiums each individual pays are satisfying his or her own Buy-Sell obligations. Surviving partners receive stepped-up basis in the business interest. Summary: Spend the next few minutes of your training session teaching the basics of a cross-purchase plan. Highlights include: Partners agree individually that each will buy his or her proportionate share of the deceased partner s interest. In order to fund cross-purchase obligations, each partner buys life insurance on co-partners in the amount of the obligation. A 1/3 Interest $150,000 A Death Proceeds $75,000 1/2 Deceased's $75,000 Interest 1/3 Interest $150,000 B Ohio National B's estate Death Proceeds $75,000 1/2 Deceased's Interest 1/3 Interest $150,000 C $75,000 C

7 Entity-Purchase Plan SUMMARY: Begin your discussion of the entity-purchase by explaining that the partnership agrees to buy and the partner agrees to sell the partnership interest. page 13 of the Buy-Sell Planning Proceed with your meeting by discussing the entity-purchase policy ownership, beneficiary arrangements and tax consequences to the partnership. The partnership, rather than the individual partners, agrees to buy a deceased s partnership interest from the estate, and the estate agrees to sell. The deceased partner s share is then divided among surviving partners in proportion to their partnership interests. Highlights include: Partnership should be the owner and beneficiary of the life insurance policies. Partnership has the legal obligation to buy the business interest from the deceased partner s estate. The decedent s business interest is transfered in exchange for the death benefit. 1/3 Interest $150,000 Ohio National A Death Proceeds 1/3 Interest $150,000 B ABC Partnership $150,000 Business Interest 1/3 Interest $150,000 C A's estate Tax consequences to surviving partners: Death benefit proceeds pass income-tax free to the partnership. No increase in partnership basis occurs for items treated as ordinary income to the decedent. paid by the partnership are not deductible. Discuss tax consequences in more detail using information on pages Primary advantage of the Partnership Entity-Purchase Plan The main advantage of funding an entity-purchase with life insurance is the limited number of policies required. Only one policy is necessary on each partner.

8 page 15 of the Buy-Sell Planning pages of the Buy-Sell Planning Professional partnership Summary: A professional partnership, such as a law firm or medical clinic, differs in many respects from other business partnerships. It normally has no tangible assets of any consequence. The primary assets of the firm are the skills and reputations of the individual partners. The partners are apt to withdraw most of the earnings, leaving in the firm only enough to meet the usual operating expenses of the business; therefore, it is necessary for the valuation of the business to include intangible assets such as the good will of the partners. Closely-held corporation Summary: The next type of business organization you will discuss is the corporation. A corporation is an artificial being, created by law, possessing only those legal rights and privileges that its charter and state law confer upon it and is a separate legal entity apart from its owners, the shareholders. The death of any shareholder does not cause the termination of the corporation. The deceased s shares are transferred by will or some agreement to another party. A closely-held corporation is one for which the stock is held by a small group of shareholders, most of whom are active in the management and operation of the business. A closely-held corporation faces some unique challenges upon the death of a shareholder. While incorporated, the stock is not readily marketable because it is not being listed on any stock exchange. In many respects, the day-to-day operation of a closely-held corporation is very similar to a partnership, with the major difference being that the shareholders have limited liability for the firm s debts.

9 Corporation taxation Tax implications are very different for a corporation when compared to a sole proprietorship and/or partnership. Corporate earnings are subject to double taxation: first when income is earned by the corporation and second when the corporation pays income to shareholders in the form of a dividend. The dividend is taxable income to shareholders and is not deductible by the corporation therefore, they are actually taxed twice. pages of the Buy-Sell Planning If the shareholder is an employee, the distribution will be deductible depending on whether the individual received the amount in his or her capacity as an employee or as a shareholder, and whether the distribution is reasonable. Another item to be aware of is the Alternative Minimum Tax (AMT), explained in detail on pages 17 and 18 of the. In summary: in most situations, corporate-owned life insurance cash-value increases and death benefits are not subject to income tax. However, if the AMT applies, taxation may result. A corporation s AMT income will be equal to its regular taxable income, increased by tax-preference items every year and adjusted computing certain items under special rules that negate their benefit under the regular tax. Specific calculations and information about exemptions are explained in the. TALKING POINT Accounting for corporate-owned life insurance is somewhat different than accounting for any other corporate asset. Take a few minutes to discuss the accounting information on page 18 of the. Death of a shareholder Summary: The death of a shareholder can create certain general problems for the corporation, including: pages of the Buy-Sell Planning The corporation loses an important member of the management team. The deceased shareholder s business interest is now owned by his or her heirs, who may be unqualified to take over as a member of management.

10 page 20 of the Buy-Sell Planning TALKING POINT The main advantage of an S corporation is the ability to operate as a corporation, with the benefits of limited liability and continuation of business entity, while avoiding taxation at the corporate level. S corporations are frequently used at business start-up, when early business losses may be taken on the shareholder s individual tax returns. S Corporation Summary: The next business organization to discuss is the S Corporation. An S Corporation is treated as a regular corporation for legal purposes, but is taxed at the federal level as if the shareholders were operating a partnership. Because of this difference, tax treatment for an S corporation varies greatly from a regular corporation. ADVANTAGES: The S status allows the shareholders to be taxed as if the business entity were a partnership. Actual profits and losses are reported by the shareholders in proportion to their share of the corporate ownership. Profits and losses are passed through to shareholders in the same form they were received by the S corporation. disadvantages: The inability to accumulate funds for business purposes in a more favorable corporate tax bracket; The lack of the business tax bracket to provide more flexible financial planning; and The lack of employee status for fringe-benefit planning purposes.

11 Corporate Buy-Sell Summary: The problems faced by the surviving shareholders and the heirs when a shareholder in a closely held corporation dies can be met effectively for all concerned with a plan drawn up beforehand. The plan should specify that the surviving shareholders or the corporation itself acquire the deceased shareholder s business interest, and the estate acquires, in cash, the fair market value of that interest. There are two types of Corporate Buy-Sell agreements: Cross-Purchase Plan, and Entity Plan. Cross-Purchase Buy-Sell Summary: The cross-purchase Buy-Sell is an arrangement whereby the shareholders agree to purchase, usually in proportion to the share of the corporation they presently own, the shares of any other shareholder when a certain event, such as disability, death or voluntary termination from the business occurs. In the Corporate Cross-Purchase Buy-Sell Agreement, the parties are the shareholders themselves. 100 shares $200,000 A 100 shares $200,000 B 100 shares $200,000 C pages 22 of the Buy-Sell Planning Tax Consequences for Purchasing Shareholders: The policy premiums are not deductible, the death proceeds are received income-tax free, and the surviving shareholder s basis in the newly purchased stock is equal to the amount of proceeds paid to the decedent s estate. Tax Consequences to the Deceased s Estate: Because the estate s basis in the sold stock has been stepped up to the fair market value, there is no reportable gain for the estate, even though this is a taxable transaction. Of course, all of the proceeds of the stock sale will be included in the decedent s estate. A $100,000 Death Proceeds $100, Shares Ohio National B's estate Death Proceeds $100, Shares $100,000 C TALKING POINT Continue to discuss the tax consequences, disadvantages and advantages of a cross-purchase Buy-Sell as explained on pages of the.

12 ll Entity (or Stock-Redemption) Plan Buy-Sell pages of the Buy-Sell Planning TALKING POINT The next step in your meeting is to go through the detailed tax consequences for the corporation, the surviving shareholders and the seller when using a stock redemption or entity plan, as outlined on pages There are different consequences for the corporation, the surviving shareholders and the seller. TALKING POINT You ll find a very useful comparison table of stock redemption (entity) and cross-purchase plans on pages 30 and 31 of the. It is definitely worth the time to use this table during your session as a recap of the best circumstances for which to use each plan. Summary: The stock-redemption is a Buy-Sell arrangement whereby the corporation agrees to purchase shares from a shareholder in the event of some triggering event such as disability, death or voluntary termination from the corporation. One key point for surviving shareholders is that after the death of a shareholder (let s say A), the corporation buys back A s shares so remaining shareholders see an increase in their stock value. However, their bases remain the same because they did not personally contribute to the increase by purchase or capital contribution. A's stock is retired by corporation $200,000 death proceeds A 100 shares $200,000 ABC, Incorporated 300 Shares Outstanding Valuation: $ 600,000 B 100 shares $200,000 C 100 shares $200,000 Ohio National pages of the Buy-Sell Planning Other types of agreements Next, review three less-commonly used Buy-Sell agreements: the Hybrid, the Wait-and-See and the Section 303 Redemption. 10

13 Design alternatives Summary: There are design alternatives to the Buy-Sell Plans discussed in this guide. Three include: Disability Buy-Out Trusteed Cross-Purchase Plans Split-Dollar in Conjunction with Buy-Sell Agreements Business valuation Summary: An important aspect of developing a Buy-Sell agreement, whether in a sole proprietorship, partnership or corporation situation, is the establishment of a proper value for the business. pages of the Buy-Sell Planning pages of the Buy-Sell Planning Discuss with your group what the Buy-Sell agreement should contain regarding business valuation for determining the price at death. Methods of valuation include: The Agreed Dollar Value; Book Value; Capitalization of Earnings; Year s Purchase Method; and Combination of the Book Value and Capitalization of Earnings. Appraised value Book value Agreed value Per share price or total amount based on one of these methods Combination book value and capitalized earnings Capitalized earnings 11

14 pages of the Buy-Sell Planning TALKING POINT Buy-Sell prospects include your already-existing personal insurance clients or their employees. In addition, there are several resources for lists of business owners including your local chamber of commerce and the Secretary of State (all incorporated businesses are required to file information about their business with the Secretary of State.) Additionally, many professional groups are listed in a directory published by the applicable professional association and several listing companies, such as Dunn and Bradstreet, list businesses by geographical areas. Selling the Buy-Sell Concept Summary: Now that you and your group understand the different Buy- Sell concepts and when to use with which organization, you can present a few ideas that will help them sell the Buy-Sell concept. There are basically three key components in the process of selling a Buy-Sell Plan: The interview an exchange of information between yourself and the client. Installation covering with the client how important it is to choose the right Buy-Sell option before purchasing life insurance. Follow up annual reviewing the plan with your client. SalesMaker A great tool to use with prospective clients is called SalesMaker. SalesMaker provides short, one-page, client-use marketing pieces that you can leave with your prospective clients or send to them in an . An entire library of SalesMaker topics is available through ON-Net, free of charge, for your use. The Buy-Sell SalesMaker provides high-level information about the Entity-Purchase Buy-Sell Agreement, Cross-Purchase Buy-Sell Agreement, One-Way Buy-Sell Agreement and Section 303 Redemption Plan. For the Buy-Sell Sales Maker materials go to ON-Net>Advanced Sales>AMO SalesMaker>Business. 12

15 Funding a Buy-Sell Agreement Life insurance is generally the best funding vehicle for Buy-Sell agreements because the proceeds become available when needed. Additionally, this type of funding provides cash for the purchase obligation cost-effectively, and death benefit proceeds pass income tax-free to the surviving businessowners or business. page 36 of the Buy-Sell Planning Alternatives to life insurance as the funding mechanisms include a bank loan, reserve or sinking fund, installment purchase or an immediate cash buy-out. Each of these alternatives is typically inferior to the use of life insurance. The following points highlight why life insurance is the best choice: Life insurance funding provides cash for the purchase obligation at a discount. Proceeds become available when needed, at the death of a business owner. Death benefit proceeds pass income-tax free to surviving business owner(s) or the business. There is no burden on the cash flow of the business and no restrictions are placed on credit due to borrowing to purchase the business interest. Choosing the right type of life insurance Ohio National s term, whole life and universal life products will all work with Buy-Sell agreements. Which product to choose depends on the type of organization, the structure of the agreement and characteristics of the parties considered in the agreement. The first choice would be one of our whole life products because the business owner knows what premiums will be due and that those premiums will fully fund the policy. In addition, business owners appreciate a whole life policy s strong contract guarantees. But universal life policies have an advantage over whole life policies because of universal life s flexibility. A business owner can time premium payments in accordance with the cash flow of the business. Variable life insurance is an option but only for business owners who can absorb more market risk. For those who do not wish to purchase permanent life insurance at all, an Ohio National term product may be the answer. New enhancements to the illustration software now allow you to compare funding mechanisms and include as part of a client s custom presentation. For more assistance, the following Ohio National resources are available: Advanced Sales Team: ON-Net>Advanced Sales> Business Insurance>Buy-Sell ON-Net>Advanced Markets Online>Business Insurance>Business Continuation 13

16 The Ohio National Life Insurance Company Ohio National Life Assurance Corporation One Financial Way Cincinnati, Ohio Post Office Box 237 Cincinnati, Ohio Telephone: Form Ohio National Financial Services, Inc. This brochure provides general information that should not be construed as specific tax advice nor the tax law of any particular state. Clients should seek the advice of a qualified tax professional for their specific situation. Life insurance and annuities are issued by The Ohio National Life Insurance Company and Ohio National Life Assurance Corporation. Product, product features and rider availability vary by state. Issuers not licensed to conduct business and products not distributed in AK, HI, or NY. for representative use ONLY. NOT FOR USE WITH the General PUBLIC.