Article 101(a)(2). Exceptions to certain transfers are a substituted basic transfer or a transfer to the insured person, a partner of the insured person, a partnership in which the insured is a partner or a company whose officer or shareholder is the insured. These exceptions do not apply if the policy has already been the subject of a “reportable policy sale”.  If permanent disability is also a triggering event, it could also be funded by insurance (disability). The notification can be incorporated into a purchase and sale contract or into a separate document. The authors suggest including the notice in the purchase and sale agreement and using a separate notice and consent for each policy to provide simple evidence of compliance with the notification and consent requirement. (Schedules 1 and 2 contain templates for notices and declarations of consent.) If it is a separate document, it may be drafted by a third party, by . B a lawyer, or provided by an insurance agent, but a qualified tax advisor should review any advice created by an agent or other third party. The notification must include the maximum nominal amount of the policy.
The authors recommend making a mistake in favour of a very large amount of approval to create a buffer that includes an increase in death benefits due to the investment of present value, if any. For sample information, see the end of this article. Incorporating the notice into the purchase and sale agreement may resolve the issue that separate notice and consent is not being given in a timely manner. A business or other employer that has one or more life insurance policies must also file Form 8925 each year with its federal income tax return. If policies were issued prior to the issuance of the notification and consent was obtained, the best option is to obtain new policies if possible. If this is not possible, the company may be able to distribute the policies to the insured owners, who can then transfer the policies to the company. Since this could be considered a phased transaction, another option for owners would be to transfer the policies to an insurance LLC. If the corporation is a corporation, the distribution of a policy to one or more of its shareholders is an accepted sale of the policy at fair market value at the corporate level, as well as a potentially taxable distribution to the recipient(s). If the corporation is taxed as a partnership, the relevant capital accounts must reflect the fair value of the policy distributed. Although the valuation of insurance policies does not fall within the scope of this article, it should be noted that the valuation of a term policy is not necessarily only the unearned insurance premium Impact of the insurance on the purchase price If the purchase-sale contract is structured as a repurchase agreement, the parties to the agreement must be clear about how the life insurance proceeds affect the purchase price.
This is important for financial and tax reasons. Many practitioners claim that the purchase price upon death is the highest of the insurance product received and the value of the deceased owner`s interest. From the point of view of inheritance tax, such a provision may increase the value of the owner`s participation in the estate and the associated inheritance tax. Alternatively, the excess proceeds (which would be reduced by inheritance tax if added to the purchase price) could stay with the unit and help offset the loss of business caused by the death of the insured. If a formula is used in the agreement to determine the purchase price, the agreement should clearly indicate whether the formula includes or excludes the death benefit in the determination of the price. Also consider the date of evaluation of the formula and whether it should precede the death of the owner. Cost of life insurance If you rely on insurance to fund a buy-sell agreement, planning could implode due to high mortality costs as the homeowner ages. If the cost is not prohibitive, the parties should consider taking out permanent life insurance rather than the duration, where the cost will be higher sooner but much lower in later years. Decisions also need to be made on the duration of policy sustainability. Is the age of 90 or 95 appropriate? Is the age of 120 really necessary or just an extra cost? Finally, is there a contingency plan when the insurance expires? Many agreements provide for the temporal payment of a portion of the purchase price that is not covered by the insurance. Such a provision should be taken into account in any agreement drawn up.
Insurance premiums paid by a company under a purchase and sale contract are not deductible by the company.  This essentially increases the cost of insurance and should be taken into account when structuring the agreement. Conclusion The death of a close-knit business owner is a difficult time for the deceased`s business and family. Good planning before an owner dies with a purchase-sale contract and insurance will help ensure a smooth transition of the business to its surviving owners while providing cash to the family of a deceased owner when they need it most.  Proc 2005-25, 2005-1 CB 962 generally applies to the valuation of life insurance contracts for income tax purposes.  Under Regulation 20.2031-2(h) or section 2703, a price set out in a purchase and sale agreement may not bind the IRS for federal discount tax purposes. Thus, under the agreement, the estate of a deceased owner is required to sell its stake in the company at the contract price, but may have to declare a higher value for federal estate tax purposes and thus pay inheritance tax on that phantom added value. In practice, the parties must be able to prove that the agreement must in any event offer a fair price (which must be updated from time to time) and not the inheritance tax system. A detailed discussion of the actual requirements of the Regulations.
Paragraph 20.2031-2(h) and Article 2703 would exceed the scope of this Article. If several business owners are seeking the benefits of a cross-purchase agreement, but at the same time want to avoid the risks associated with a cross-purchase, the formation of a separate manager-led limited liability company (“Insurance LLC”) should be considered to own and manage the insurance policies that insure the lives of business owners. Existing owner-owned policies can be transferred to Insurance LLC, or new policies can be purchased from Insurance LLC. Each member of the Insurance LLC is designated as the beneficial owner of the life insurance policies that insure other members whose interest in that member`s business unit is to acquire under the agreement to purchase and sell the business unit upon death. Life insurance policies must also designate the insurance LLC as the beneficiary. The fact that Insurance LLC owns all policies provides centralized management and creditor protection for the policies it holds and avoids the inclusion of inheritance tax for its owners, benefits that are otherwise not available if the individual owners own the policies. It also avoids poor tax outcomes if an owner leaves the business and ownership of the policy needs to be adjusted. While incorporating an insurance LLC into a purchase-sale agreement can result in costs and complexity, the benefits of an insurance LLC can often outweigh these costs. The ownership of insurance LLC mirrors that of the business unit, and an independent person or corporate trustee should act as manager.
Each insurance LLC member must make capital contributions equal to the premiums of the life insurance policy for which it is designated as the beneficial owner, in accordance with the member`s purchase obligation under the business unit`s purchase-sale agreement. If a policy has more than one beneficial owner, each participant`s contribution to insurance premiums should be proportional to the participant`s total percentage of interest in the business unit (if the purchase and sale provides for a pro-rated purchase). Example. A has a total interest of 35% in the business unit and B has a total interest of 5% in the business unit. A and B are the beneficial owners of a policy that ensures the life of C, with an annual premium of $1,000. A would make an annual contribution of $875 (35%/40% x $1,000), and B would make a contribution of $125 (5%/40% x $1,000). .