What happens to a business partnership when one of the partners passes away is of particular interest to both the family of the deceased and the surviving partner. If a plan is in place the transition can go smoothly. If there is no plan in place it can be everyone’s worst nightmare.
For the family of the deceased partner there are two things that have just happened financially. First, they have lost the income that was derived from the business on an ongoing basis. Hopefully there was a personal life insurance policy in force to cover that possibility.
Second, and a bit more complicated is the status of the partnership and the value of the deceased’s portion of the business. Even though there has been a death, the family of the partner who died, in most cases, has the right to either be paid the value of that portion of the business, or in many states they can actually take over the responsibilities of that portion of the partnership. Paying out the value of the partnership can be an untenable burden on the business and it is not uncommon for it to be the cause of the end of the business. To have a family member move in and take over as partner can be equally untenable as the likelihood is that, well, they just aren’t the same person with the same knowledge and the same long term working relationship. It can often be a train wreck.
The answer lies in a legal buy/sell agreement funded by life insurance policies on both partners or however many partners there are. The legal document spells out the agreement of the partners that upon a death the life insurance proceeds will be used to buy out the deceased partner’s widow or family at an agreed upon price. Because obviously the value of a company can change dramatically these plans should be reviewed on a regular basis to make sure that they buy out is at a fair price.
In most cases term insurance is the appropriate product for buy/sell funding for a couple of reasons. First, partnerships seldom reach the longevity that would justify a permanent policy. Very few partnerships last to the partner’s ages in their 90’s or 100’s. Second, because businesses change and business value changes, term insurance is a more flexible product.
Bottom line. Families rely on both the income and value of partnerships and prudent planning protects both of those.