Is Your Buy-Sell Jury-Rigged & Jerry-Built?
Back in the days before the development of things like the NiMH or lithium-ion battery, stand-up comedian Don Adams (who later became Maxwell, the original Get Smart secret agent) used to joke that electric cars were unpopular because of the high cost of the extension cord.
Many insurance advisors face a similar hurdle when advising clients to properly set up a buy-sell arrangement using term insurance to fund the plan.
The cost of getting with the attorney to draft and implement a written agreement, to say nothing of the time and effort required, is discouragingly disproportionate to the amount of premiums for the coverage.
Consequently, just to get things done the policies are often jointly-owned as a “no-fuss” method of assuring that proceeds will get to the surviving owners to buy out a deceased owner’s estate, without a formal agreement.
It works like this:
Joint owners and beneficiaries (some states add “with right of survivorship”) share equally in the possession of the policy and the right to proceeds, so long as they survive the insured. If not, only the survivors share equally. So if equal business owners A, B, and C agree to fund a buy-sell then, e.g., A and B jointly own the policy on C. When C dies A and B have funds to buy C’s business interest. But more important, C’s joint interest in the policies on A and B ends. A and B are now the sole owner and beneficiary of the policy on each other for use at the second death.
Something is said to be “jury-rigged” when it is simply constructed with the materials at hand. That same thing is “jerry-built” when it is done in a shoddy or inferior fashion. Buy-sell plans built solely on joint policy ownership are both. The only thing assured is that the money gets to the prospective buyers. After that it’s all up for grabs.
Consider:
- The surviving owners are under no legal obligation to buy, leaving the estate of the deceased (probably the surviving spouse) in a lurch.
- The deceased’s estate is under no obligation to sell, leaving the deceased’s heirs as a new owner in the business.
- There is no fixed price for the business for estate or for income tax purposes should the IRS get involved.
- Re-arrangement of interests in the remaining policies could constitute a transfer-for-value.
Of course the worst that could happen is for someone to die with no coverage in force. So if clients are resolute in their refusal to take proper steps to implement a written plan, the advisor should at least get coverage issued with the most advisable ownership arrangement. But in addition the file should contain a cover-your-backside letter from the advisor to the clients spelling out the need to discuss the possible problems with their tax and legal advisor.
Call for help in drafting the letter and, just maybe, we might even talk the clients into going to their attorney and doing it right. Try 706-614-3796 or tom@cpsadvancedmarkets.com.
Join, jury, jerry – there are a lot of J’s flying around this article. And it just so happens that James and John are the first and second most common male names in the United States. And sure enough there have been six presidents named James and five named John.