Funding the Purchase Price under a Business Succession Plan

When a co-owner exercises an option to buy or sell their equity in the business a liability will arise for the continuing co-owner(s) to pay an amount (“purchase price“) for the value of the outgoing co-owner’s equity in the business. Most Business Succession Plans involve the maintenance of personal insurance policies in respect of each co-owner so that a lump sum will be received under the policy to pay the purchase price when an option is exercised.

In some cases, funding can also occur under a Vendor Finance Agreement or a combination of vendor financing and personal insurances.

Structuring Policy Ownership for Business Succession Planning

The following options exist with respect to the structuring of ownership for personal insurances policies under a Business Succession Plan:

The implications of each ownership option are considered below.

In more recent times Super Fund Ownership has also emerged as an option for Policy Ownership due to the argument for tax deductability of premiums. However, significant uncertainty remains in connection with the legitimacy and tax-effectiveness of Super Fund Ownership, in particular, in relation to the strategy complying with the ‘Sole Purpose Test’. As a result, Roberts Legal, does not generally recommend Super Fund Ownership for structuring Business Succession Planning insurances.

Capital Gains Tax (‘CGT’) & Business Succession Planning

Generally, CGT is payable on the proceeds of a claim on an insurance policy unless an exemption is available.  Traditionally, the choice of ownership of personal insurance policies for business succession planning has been determined based on the availability of an exemption for Capital Gains Tax (‘CGT’) on the insurance proceeds.

In Australia, the CGT laws differentiate between tax payable for Death Benefits and tax payable for Non-Death Benefits (such as Total and Permanent Disablement, Trauma and Terminal Illness Benefits).

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By Sam Roberts,
Managing Director, Accredited Specialist (Commercial Litigation)

Sam Roberts