The Brass Tacks of a Corporation Buy-Out

Posted on June 4, 2014 in Planning & Advisors

When a shareholder in a multiple-owner company decides to withdraw from a corporation, her shares need to be transferred.  But to whom?  And how?  It depends on how the shareholder’s agreement is worded.

Two scenarios are:

  1. A shareholder retires and sells the shares to the remaining shareholder(s)
  2. A shareholder resigns and sells the shares back to the corporation

The first method is sometimes referred to as a “cross-purchase agreement.”  Under a cross-purchase agreement, the shareholders agree to buy each other out when one withdraws.  The corporation is not part of the purchase/sale.

The second scenario, sometimes referred to as a “stock redemption,” is where the corporation — not the individual shareholders — buy back the stock.

The downside to #1:  the individual shareholders need to come up with the funds for the buyout.  Under #2, the corporation comes up with the funds.  In both situations, life insurance proceeds can be used . . . but that doesn’t help when an owner, say, resigns, and remains very much alive.  That’s why your shareholder agreement needs to have a provision for paying the buy-out price over time (unless, of course, all of the shareholders are independently wealthy and money is no issue).

These kinds of formulas are not exactly straightforward, so it’s always advisable to have a knowledgeable attorney draft these provisions for you.

For more on cross-purchase agreements and stock redemption plans, visit Ryan Roberts’ blog at The StartUp Lawyer.

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