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Insuring a Buy Sell Agreement? – Tax Treatment

By February 23, 2015Business

We recently did a post on if you can deduct your life insurance premiums.  In this post we want to specifically talk about life insurance in connection with buy sell agreements.

A Buy Sell agreement is a really important part of a co-owner business.  We recommend these get setup as close to the setup of the business as possible.  This agreement, sometimes called a buyout agreement, protects the business owner when a co-owner wants to get out of the business, retire, sell his shares, goes through a divorce, or dies.

Life insurance can be a good way to fund the buy sell agreement.  In the event of death, the life insurance policy gives the business enough cash to buy out the deceased partner’s estate.  In the other events, it’s possible the cash value of the policy has built up to cover the buyout arrangement.

We won’t go into more specifics regarding a buy sell agreement.  We recommend you contact a qualified professional who deals with this more often than your CPA.  If you need a recommendation, email us and we can give you some names of people we trust.

The question we are looking to answer is can the business deduct the life insurance premium when the policy is tied to a buy sell agreement.

The answer is Nope.

The same rules to tax deductibility of premiums we covered in our last life insurance post still apply. It makes sense when we think about the tax consequences of one partner buying out another partner.

IRS rules don’t allow the payment to buy more equity as a tax deduction either.  It’s the same when you buy a share of stock.  Your stock purchase isn’t a tax deduction.  It’s “basis”.  Which is a fancy way for the IRS to say, “You can’t expense it now.”  Basis allows you to reduce the gain you pay tax on, but that only happens when you sell the stock.

So just because you are using life insurance proceeds to buy out a partner doesn’t change any of this.  The IRS is basically looking at the insurance premiums as a prepayment of buying equity.

We don’t every pretend like we know everything.  Let us know if you’ve heard otherwise, so we can get the same info and see if it matches tax code.

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