Buy-Sell Agreements for Owner Death, Disability, Divorce, and Departure

By Hank FasthoffJuly 5, 2026

An owner's death, disability, divorce, retirement, or departure can force a private company to answer four questions at once. The agreement must identify the eligible buyer, the party obligated to buy, the price, and the source of payment.

Your buy-sell agreement should answer each question before a triggering event occurs. Texas LLC owners may place those terms in the company agreement or a separate contract. Corporate owners often use a shareholders agreement coordinated with the certificate of formation, bylaws, and share records.

Each Trigger Requires Separate Terms

Death, disability, resignation, termination, retirement, divorce, bankruptcy, and loss of a required professional license affect an ownership interest in different ways. Your agreement should state whether each event creates an option or an obligation, who may exercise the right, when notice must be sent, and when the transaction must close.

Disability requires an objective standard. The agreement can use a specified period, a determination under a disability policy, or medical evidence from an identified professional. It should also address partial disability, a return before closing, and disagreement between medical opinions.

Employment termination needs separate treatment from ownership. Owners often negotiate different results for voluntary resignation, termination without cause, retirement, and defined misconduct. A price reduction tied to cause should use a precise definition and a process for resolving the classification, since an employment dispute can determine the value of the ownership interest.

Section 541(c) of the Bankruptcy Code generally makes a debtor's interest property of the bankruptcy estate despite a contractual restriction conditioned on insolvency or bankruptcy. Section 365(e) separately limits termination or modification of an executory contract triggered by bankruptcy, subject to statutory exceptions. A buy-sell agreement should address bankruptcy without promising an automatic transfer that federal law may prevent.

Death and Divorce Under Texas LLC Law

Texas LLC law separates economic ownership from management authority. Section 101.106 of the Texas Business Organizations Code provides that a membership interest may be community property, while a member's right to participate in management and conduct of the business isn't community property.

After divorce, Section 101.1115 treats the spouse as an assignee, which generally means a holder of economic rights without membership or management authority, to the extent of the spouse's interest. After a member's death, the surviving spouse, heirs, devisees, personal representative, and other successors are assignees to the extent of their respective interests. Sections 101.108 through 101.110 govern the assigned allocations, distributions, and admission rights. Admission as a member requires approval from all members unless the company agreement provides another rule.

Section 101.1115 preserves agreements for the purchase or sale of a membership interest on death or divorce. Your company agreement can require a purchase, establish the valuation process, and define payment terms. A spousal consent can acknowledge the transfer restrictions and the distinction between economic rights and management authority.

Corporate shares follow a different statutory framework. Sections 21.210 and 21.211 authorize reasonable restrictions that require an offer, impose a purchase obligation, require consent, preserve S corporation status, or require a transfer under stated conditions. Section 21.213 makes a reasonable restriction specifically enforceable when it appears conspicuously on the share certificate or in the notice for uncertificated shares. A transferee for value who lacked actual knowledge may take free of an unnoted restriction, as may a subsequent transferee.

Cross Purchase, Entity Purchase, and Hybrid Structures

In a cross purchase, the remaining owners buy the departing owner's interest. Each buyer may own life or disability insurance on the other owners and use the proceeds to fund the purchase. The structure can become cumbersome when several owners must maintain policies on one another.

An entity purchase requires the company to buy or redeem the interest. One company can own a policy on each covered owner, receive the proceeds, and fund the purchase. The agreement should account for distribution limits, tax treatment, creditor claims, and a shortfall between the proceeds and the purchase price.

A hybrid agreement establishes more than one buyer or funding source. The company may receive the first option, followed by an option for the remaining owners. Purchase responsibility may also shift when the company lacks enough cash or legal authority to complete the redemption. Your agreement should state the priority among buyers and specify whether an unexercised option becomes a mandatory purchase.

Tax Consequences Follow the Purchase Structure

A corporate cross purchase generally provides each buyer with cost basis in the shares purchased under Section 1012 of the Internal Revenue Code. After a corporate redemption, the remaining shareholders generally keep their existing basis in the shares they retain.

Section 302 determines whether a corporate redemption receives sale or exchange treatment or falls under the distribution rules. Complete termination, ownership reduction, family attribution, and waiver requirements can affect that classification.

An LLC taxed as a partnership follows partnership rules instead of corporate redemption rules. Payments to a departing member can implicate partnership distributions, payments to retiring partners, outside basis, inside basis, ordinary income from specified assets, and a possible Section 754 election. The company's tax classification and the character of each payment should determine the treatment.

Corporate Life Insurance After Connelly

In Connelly v. United States, 602 U.S. 257 (2024), a corporation received life insurance proceeds and used part of them to redeem a deceased shareholder's stock. The Supreme Court held that the corporation's contractual obligation to redeem shares at fair market value wasn't necessarily a liability that reduced the corporation's value for federal estate tax purposes.

The corporation was worth $6.86 million at the shareholder's death, including $3 million in insurance proceeds committed to the redemption. A hypothetical buyer of the deceased shareholder's 77.18% interest would receive the fair market value of those shares in the redemption. The valuation therefore included the proceeds without subtracting the redemption obligation.

The Court described its result as a consequence of the structure the owners selected. Company owned insurance may increase corporate value immediately before a redemption, while insurance owned by purchasing shareholders can produce different valuation and basis consequences. Your buy-sell agreement, policy ownership, valuation terms, and estate plan should use one coordinated structure.

For a decedent dying in 2026, the federal basic exclusion amount is $15 million. Prior taxable gifts, deductions, elections, policy ownership, and the rest of the taxable estate affect the calculation. Estate tax therefore depends on more than the exclusion amount.

Contract Price and Federal Tax Value

A price that binds the owners under state contract law may receive different treatment for federal estate and gift tax purposes. Section 2703 generally disregards a purchase right or restriction on the sale or use of property when valuing it.

Section 2703 provides an exception for a bona fide business arrangement whose purpose concerns business rather than a transfer to family members for less than full and adequate consideration. Its terms must also compare with similar arrangements between people dealing at arm's length. Your agreement should document its business purpose and use a defensible valuation method, and you should review it when ownership or family relationships change.

Valuation Terms Require a Complete Method

Fair market value and fair value can produce different results. Fair market value commonly measures what a willing buyer would pay a willing seller when neither acts under compulsion and both know the relevant facts. Fair value may refer to a statutory or contractual standard that treats control premiums and marketability discounts differently. Your agreement should define the chosen standard rather than rely on the label.

A fixed price can provide certainty when the owners update it on schedule. The agreement should state what happens when the latest signed value is several years old. Otherwise, an expired certificate can dictate a price disconnected from the company at the time of purchase.

Formula pricing may use revenue, earnings, book value, or another financial measure. Your formula should define owner compensation adjustments, nonrecurring items, debt, excess cash, working capital, insurance proceeds, transactions with related parties, and the measurement period. It should also state who prepares the calculation and how the parties resolve a disagreement.

An appraisal process should identify the valuation date, standard of value, level of value, applicable discounts, appraiser qualifications, access to records, and treatment of goodwill. The agreement can use one jointly selected appraiser or separate appraisers with a defined process for resolving a material difference.

Funding Must Match the Purchase Obligation

Life insurance can provide cash after an owner's death, but the policy amount may differ from the purchase price when company value changes. Your agreement should address premium payments, policy ownership, beneficiaries, proof of coverage, use of excess proceeds, and the buyer's obligation when proceeds fall short.

Policy transfers require tax review. Section 101 generally excludes qualifying life insurance death benefits from gross income, while the transfer for value rule can limit that exclusion after a policy transfer unless an exception applies.

Coverage owned by the company can also fall under Section 101(j). Before issuing a policy owned by an employer, the company generally must notify the insured employee in writing of the intended coverage and maximum face amount. It must also obtain written consent that permits coverage to continue after employment ends and disclose that the company will be a beneficiary of the proceeds. Form 8925 provides the annual reporting mechanism for covered policies. You should settle policy ownership and consent before issuance and review both before any subsequent transfer or material change.

Installment payments can fund a purchase without insurance or cover a shortfall. Your agreement should state the down payment, interest rate, payment dates, maturity, collateral, guaranties, prepayment rights, default remedies, acceleration rights, and any subordination to senior lenders. The seller's estate or former owner bears credit risk until the buyer pays the note.

Company Purchases Require Solvency and Payment Analysis

A company purchase remains subject to Texas distribution limits regardless of the contractual obligation. For corporations, Section 21.303 prohibits a distribution that violates the certificate of formation, leaves the corporation insolvent, or exceeds the statutory distribution limit.

Texas LLCs face a related balance sheet restriction for payments made as distributions to members. Section 101.206 generally prohibits such a distribution when the company's liabilities would exceed the fair value of its assets immediately after payment, subject to the statute's specified adjustments. A buyout should distinguish purchase consideration from any amount paid to the seller in the seller's capacity as a member.

Your agreement should address a company that lacks legal authority or available cash to pay the full price at closing. A delayed closing, installment note, purchase by the remaining owners, or payment limited to the maximum lawful amount can provide an alternative. Each approach changes the seller's credit risk and the tax analysis.

Transfer Restrictions Need Company Records

If your company is an LLC, your buy-sell agreement should align with the certificate of formation, company agreement, membership ledger, and any spousal consent. Conflicting documents can produce disputes over voting rights, amendment standards, valuation, and authority to bind the company.

Corporate owners should place restrictions in a location authorized by Section 21.210 and make the notation required for enforceability under Section 21.213. If the corporation issued uncertificated shares, its ownership notice should contain the restriction.

S corporation restrictions should limit transfers to eligible shareholders and protect the one class of stock requirement. Professional entities should address the death, disability, disqualification, or loss of license of an owner whose eligibility depends on professional licensing law.

Guaranties and Transition Terms

A departing owner may remain liable on a lease, line of credit, equipment note, merchant account, or another guaranty after selling the ownership interest. A creditor may enforce the guaranty despite a company promise to seek a release. Your agreement should state who must request consent, whether closing depends on release, and what indemnity or security applies when a creditor refuses.

Transition terms should address access to bank accounts, books, passwords, tax records, customer information, intellectual property, insurance, and company property. They should also identify who communicates with employees, customers, lenders, and vendors and when the departing owner loses authority to act for the company.

Any confidentiality, nonsolicitation, or noncompetition covenant must comply with applicable law and fit the owner's role. Purchase price allocation can affect tax treatment and enforceability. Restrictive covenants and tax provisions therefore need coordinated review.

Questions to Resolve Before Signing

You should identify every event that may trigger a purchase and decide whether it creates an option or an obligation. You should also name the buyer, establish priority among possible buyers, define the valuation method, and state when the price becomes final.

The agreement should coordinate insurance ownership, estate planning, tax classification, company records, and lender requirements. A company purchase also needs an alternative when distribution limits or available funds prevent full payment at closing.

You should revisit the agreement when company value rises or falls, a new owner joins, an owner marries or divorces, the company elects a different tax classification, coverage lapses or expands, or a lender requires new guaranties. An agreement written for the original owners can produce the wrong buyer, price, or tax result after the business evolves.

Owners can use a complete buy-sell agreement to turn a departure into a defined transaction. That result depends on coordinated triggers, transfer restrictions, valuation, funding, tax treatment, and company authority to complete the purchase.