less than the fair market value of the stock, the employee will realize ordinary income equal to the excess of the fair market value of the stock over the price he or she paid for the stock. D.
Gift from Existing Shareholders
Whether a stockholder can make a gift of stock to a key employee will depend upon the relationship between the person making and the person receiving such a gift. If the key employee receiving the gift is a family member such as a spouse, child, grandchild, spouse of a child or grandchild, or a niece or nephew, the gift will undoubtedly be respected as such for tax purposes, and will not be deemed to be income to the recipient. If, however, the key employee is really just a key employee, then no matter that you “treat him like a son,” the “gift” will be treated as compensation for services. III.
Protecting the Business
What if the transferee fails…? Quits! Goes bankrupt! Gets divorced! Dies Embezzles or is convicted of a crime? If a transfer to an inside third party does not provide for a complete transfer of ownership, then provisions should be taken to protect the business through the adoption of a buy sell agreement and also an employment contract. IV.
Buy Sell Agreements A.
Overview.
A buy-sell agreement is a contractual agreement among the owners of a business (the shareholders of a corporation, the partners of a partnership, or the members of a limited liability company) which restricts the right to transfer the ownership interests and establishes certain purchase and sale rights and obligations upon the occurrence of certain events. B.
Uses of the Buy Sell Agreement.
A buy-sell agreement may serve achieve one or more of the following objectives: 1. Restriction of Transfer -By restricting the transfer of an ownership interest outside the ownership group, a buy-sell agreement can help the owners control and restrict who is part of the ownership group. 2. Provides Liquidity - If the agreement provides a purchase obligation in the event of death of an owner and that obligation is funded with life insurance the agreement can be used to convert the deceased owner’s equity interests into cash. 3. Fixes Value - By fixing the price which applies in the event of a purchase under the terms of the agreement, the estate tax value of the equity can be fixed in the estate of a deceased owner. V.
The Mechanics of the Buy Sell Agreement. A.
The Form Agreement.
The buy sell agreement can take one of the following forms: (i) a “Cross Purchase” Agreement; (ii) a “Redemption Agreement”; or (iii) a hybrid agreement. No matter what the form of the agreement the 69