A buy/sell agreement, funded with life insurance (or disability buy/sell insurance, or both), is critical for any dental practice that is owned in partnership with another individual. What the agreement does, first and foremost, is to establish some concrete steps as to what would happen in the event of the death or disability of a partner. What the insurance does, is fund the agreement once it is triggered by death or disability.
An Agreement Among Partners
Undoubtedly the death or disability of a partner will be emotionally trying for the surviving partner(s), their families, and the practice. What a buy agreement does is to ease the financial stress that would exacerbate an already trying situation.
Having a solid agreement in place is critical for any partnership and having the appropriate insurances to fund the agreement it may save you, your partner, and your families huge headaches in the long run. The agreement is put into place when all partners are alive and well. Each doctor is insured under a separate policy: both life and buy/sell disability insurance. Everyone agrees to everything. As obvious as this may seem, having all these questions settled ahead of time provides for ease later.
Here, in short, are several good reasons why you would want to work with an attorney and accountant to establish a buy/sell agreement:
- Establish ground rules for what would happen if a partner is disabled or dies
- Establish, in advance, how the practice value will be determined in such an event
- Mitigate the financial issues that may arise – for example, it may eliminate the need for the surviving partner to secure a bank loan in an already stressful time, especially if the practice is losing the gross production of a practicing dentist.
- Offers certainty for the continuity of the practice
- Mitigates conflict among surviving family members and partner, because the funds are available, and a plan is already in place
Now, let’s look at how the insurance helps fund the agreement.
Funding The Agreement With Life Insurance
Scenario: One partner passes away
In the event of a death of a partner, it’s important to have a plan as to what would happen to the business. Not only will the surviving partner likely not want to be in business with the deceased partner’s spouse or estate, but state laws pertaining to practice ownership may further complicate things. Likewise, the deceased partner’s heirs may have no interest, ability, or desire to get into running a dental practice. Having a buy/sell agreement in place sets the rules in place as to what will happen to the practice now that one of the partners is deceased.
When life insurance is obtained in order to fund a buy/sell agreement, , it’s obviously done while both partners are alive and can come to agreement on the valuation of the practice, and on a sale price if one of them is no longer alive. Say there’s a partner A and a partner B, who agree on the method of valuation of for the practice. Either both partners acquire life insurance for the said amount and designate each other as beneficiaries, or the business itself becomes the owner and beneficiary of the life insurance proceeds. Say that Partner B dies prematurely, which is most unfortunate for everyone involved. Thankfully, the buy/sell agreement sets forth how much the sale price of the practice will be and what will happen next. The life insurance proceeds on Partner B’s life are used to purchase B’s share of the business, so that partner A can continue, and the business can operate without further (financial) disruption.
Funding The Agreement With Disability Buy/Sell Insurance
But what if a partner doesn’t die? What if a partner is disabled? What happens then?
A buy/sell agreement should have in place a provision in the event that a partner is disabled.
Disability cases are not always as clear-cut as when a partner passes away. Obviously, if a partner dies, you know they are not coming back. A disabled partner, on the other hand, may potentially return to the practice. Or they may think they want to return to the practice, even if it may not be feasible in the long run. This makes the disability scenario more complex to navigate.
Scenario Two: One partner becomes disabled
Again, we go back to our two partners, A and B. This time partner A is disabled in an accident, and it doesn’t look like a return to the practice is likely. But who’s to tell? The buy/sell agreement kicks in and sets forth the ground rules for the buyout. In the agreement it is clearly stated (and previous agreed upon by both partners) that after a fixed period, partner B can buy out partner A, funded in whole or in part with the policy. The time between disability and the ability to purchase the practice varies, it could be a few months, and is typically a year. Disability buy/sell polices typically require that the disability last for 12 months before any benefits are payable. Each practice will come to its own conclusion as to what that needs to be. This may help mitigate potential issues if the disabled doctor is convinced that he/she may be able to return to the practice when it is obvious to the other partners that it is not a possibility.
If you own a disability buy/sell on the partners, it is the insurance company that ultimately determines whether the injured/ill partner is totally disabled and unable to return to the practice.
Choosing the Right Insurance
At Treloar & Heisel, our experienced financial professionals have been working with dentists and specialists for decades to help them ensure the continuity of their practice. By finding the right insurance policy to fund your buy/sell agreement, everyone involved with your practice can have peace of mind for the future.