Cross Purchase Buy Sell Agreement vs. Entity Purchase

Latest Facts & News

• 70% of family businesses fail to survive the transition to the second generation
• Life insurance-funded buy-sell agreements have increased by 23% in 2025 due to rising business valuations
• New IRS regulations effective January 2025 impact valuation discounts for closely-held businesses
• Business partnership disputes over succession planning cost an average of $184,000 in legal fees
• 60% of business owners lack proper succession planning, leaving partnerships vulnerable
• Updated tax code provisions in 2025 affect the step-up in basis benefits for cross-purchase agreements

Most business owners talk about growth, profits, and what they’re planning for next year. But not many sit down to ask the one question that really matters: what happens if one of us suddenly can’t show up anymore?

That’s where a buy-sell agreement comes in. It’s not just a plan you keep in a drawer. It’s what protects the business when something serious happens like death, disability, retirement, or even someone choosing to walk away.

This blog post will walk you through the two most common ways to set up a buy-sell agreement: cross purchase and entity purchase. You’ll see what each one actually means and how it can affect your business, your partners, and everything you’ve built together.

Understanding Cross Purchase Buy Sell Agreement Fundamentals

A cross purchase buy sell agreement is a straightforward contract that business owners use to plan for the unexpected, such as a partner’s death, disability, retirement, or leaving the company.

The idea is pretty simple, which means every business owner takes out a life insurance policy on each of the other partners. If something happens to one partner, the insurance payout gives the surviving partners the money they need to buy out the departing owner’s share.

This keeps the company running without disruption and basically ensures each owner’s family or estate is treated fairly. This setup is a key part of smart business succession planning and really makes partnership agreements much stronger.

How Cross-Purchase Agreements Work in Practice?

Let’s break down how this actually works, step by step:

• Buying the policies: Each partner buys a life insurance policy for every other partner in the business. So, for example, if there are three partners, each person ends up holding two policies.
• Paying premiums: Partners pay the policy premiums themselves. Simply put, for every policy you own on another partner, you’re the one responsible for paying the cost.
• Becoming the beneficiary: Whoever pays for the policy is also the beneficiary. So, if something happens, that’s who receives the insurance money.
• If something happens (death, disability, retirement, departure): If a partner dies, becomes permanently disabled, retires, or leaves the company, the agreement kicks in automatically.
• Using the insurance money for buyout: The remaining owners get the payout and use it to buy out the departing partner’s share. That way, their family or estate is fairly compensated, and the business keeps moving forward with clear ownership.

This whole system is really about keeping things smooth. No one has to scramble for money, and there’s no confusion about who takes over what when the unexpected shows up.

Legal Requirements and Documentation

To ensure that a cross purchase buy sell agreement functions the way it is supposed to, you must take care to pay attention to some technicalities of the law:

• Written contract: The contract should be written and signed by all the partners. This makes it legal and binding.
• Lawyer’s role: You will need to get a lawyer. They will assist you in drafting the agreement and ensuring that it contains all that it must, legally and in a manner that works best for all parties.
• Valuation procedures: The contract must outline how the business value will be calculated and what each partner will receive. It might be a formula, a predetermined amount, or an independent appraisal. Whatever, it must be predetermined.
• Compliance: The policies and agreements should adhere to federal and state legislation, including taxation legislation. This is crucial if you do not wish to incur future legal or tax issues.

Also, it’s not a bad idea to check and revise all that every now and then. Business circumstances change, legislation changes, and your contract should catch up on all of that as well.

Triggering Events and Activation Scenarios

Cross purchase buy sell agreements are intended to come into action once a major, fundamental change occurs. In other words, here is a quick look at what would be some common triggering events:

• Death: If a partner dies, surviving owners use the insurance money to complete a buyout, an easy enough concept to keep matter-specific.
• Permanent disability: If a partner is permanently disabled, the agreement is designed to buy the share in a clean manner.
• Retirement: Upon a partner’s retirement, the agreement has a mechanism to ensure ownership change proceeds smoothly, without rancor.
• Voluntary departure: Should a partner resign in order to take up something new or simply for personal reasons, the buyout is no different from any other; it just boils down to a process, no guesswork.
• Involuntary departure: Sometimes a partner may be removed from the ranks of owners again, maybe for cause, maybe for ongoing cause; the same agreement is going to provide for the buyout terms.

So in short, everything’s already written down. When things change, everyone knows what’s going to happen, how to value the shares, and where the money’s coming from. It takes away the pressure and helps the business stay steady, even when life doesn’t.

What is an Entity Purchase Agreement?

An entity purchase agreement is a business protection plan where the company itself takes charge of buying life insurance policies for every owner, rather than individual partners buying policies on each other.

When something major happens, an owner retires, is disabled, leaves, or passes away, the business uses the insurance payout to buy back that person’s share.

Business Entity as Policy Owner and Beneficiary

Understanding who owns the life insurance policies and who receives the benefits clarifies where control lies in the buy-sell process. This knowledge is key because it affects how smoothly buyouts happen and who handles the money.

In an entity purchase agreement, the business itself:

• Purchases and fully owns life insurance policies on all the owners.
• Pays all insurance premiums directly from the company’s funds.
• Receives the death benefits whenever a triggering event, like death or retirement, occurs.
• Uses the insurance payout to buy out the departing owner’s share in the business.

Since the business owns the policies and collects the insurance money, the buyout process remains centralized, organized, and transparent. This central control helps avoid confusion, making sure funding is available exactly when needed to keep the business running smoothly.

We Also Offer → Retirement Planning Services. 

Administrative Simplicity and Cost Efficiency

Managing insurance policies can become complicated and expensive, especially as the number of owners increases. Knowing how the entity purchase agreement simplifies administration and controls costs is important for business owners and their advisors.

The entity purchase agreement greatly reduces complexity by:

• Limiting the number of insurance policies to just one per owner, no matter how many owners there are.
• Centralizing premium payments under the business improves cash flow management and recordkeeping.
• Eliminating the need for each partner to track and pay for multiple policies on other owners.
• Making it easier to add or remove owners because the business handles the policies directly, with only one new or cancelled policy per owner.

This straightforward approach saves time and reduces administrative costs, making it highly attractive for businesses with multiple owners or complex ownership structures.

Corporate Tax Implications and Considerations

The way you handle premiums and insurance payouts with an entity purchase agreement can have a real impact on your company’s taxes and financials. Here are the key tax points for entity purchase agreements:

• Premiums the business pays on policies where it is the beneficiary are generally not tax-deductible.
• Death benefits received by the business are usually income tax-free, providing the full amount needed to fund ownership buyouts.
• Some businesses may face Alternative Minimum Tax (AMT) concerns depending on their overall tax situation.
• Proper reporting of premiums paid and benefits received on corporate tax returns is necessary to meet IRS requirements.
• Business owners should consult with tax professionals to assess how the entity purchase agreement impacts their specific tax situation and to ensure compliance.

Knowing these tax implications helps businesses avoid surprises and strategically plan for ownership transitions in a financially sound way.

Also Read → Life Insurance Trends: Are You Prepared for the Future? Exploring Financial Planning Strategies!

Buy Sell Agreement Life Insurance Funding Strategies

A buy sell agreement with a life insurance plan is the backbone of funding for both cross-purchase and entity purchase structures. Using life insurance ensures your business has the money it needs, right when it’s needed, to buy out a departing owner and maintain business stability.

Why Life Insurance is Essential for Buy Sell Agreements

• It makes sure that funds are available precisely when a partner dies, becomes disabled, retires, or leaves.
• It removes the risk of needing quick cash or taking on debt during a stressful time.
• It keeps the ownership transfer process smooth and prevents conflicts within the business or between families.

Term vs. Permanent Life Insurance Options

Before selecting your buy sell agreement life insurance, it’s important to understand the two major types:

Keep in mind that the actual costs vary by age, health, and insurer.

Choosing between them:

• Term life is usually picked when budgets are tight or owners expect the buy-sell agreement to be needed for only a set period.
• Permanent life is often preferred when owners want coverage to last as long as the business exists or want the added cash value as a resource in the agreement.

Coverage Amount Determination and Valuation Methods

You need enough life insurance in your buy-sell deal to pay for buying a partner’s share at its true value now.

Here’s what most people do:

• Get the business value figured out by a professional, or use a simple formula that fits your type of business.
• Make sure each owner’s insurance covers what their part is worth.
• Put in the agreement how you’ll decide that value, like checking it every year or using a set number that gets updated.
• Keep checking the values and insurance every year or whenever something big changes (like adding a partner or the business grows).

Doing this means when it’s time to buy out someone, the money is there, fair for all, and it all goes smoothly.

Premium Payment Structures and Tax Treatment

Who is responsible for paying the insurance premiums, and what are the tax consequences? This pertains to business cash flow and personal taxation.

Under cross-purchase agreements:

• Insured owners pay the premiums for policies they own for the other owners.
• Premiums are paid with after-tax dollars.
• Generally, they are not deductible to the owner paying the premiums.

Under an entity purchase agreement:

• The company pays all premiums directly from its own account.
• These premium payments are normally not deductible for the business.
• The death benefit, if paid, would usually be tax-free to the company.
• Some corporations might have to consider the Alternate Minimum Tax (AMT) consequences if the benefit paid is significant or if the policy is cash-value oriented.

In all situations, it is recommended to engage an insurance professional and a tax expert such as SWAT Advisors in order to establish the best payment and income reporting plan.

Comparative Analysis: Cross-Purchase vs. Entity Purchase

Choosing the right buy-sell structure means looking closely at how cross-purchase and entity purchase agreements stack up in real business situations.

Cross-Purchase vs. Entity Purchase: At a Glance

Here’s a side-by-side comparison that covers tax impact, practical challenges, and how easily each option can adjust as your company grows or changes.

Tax Implications and Step-Up in Basis Benefits

Taxes can take a big chunk out of profits if the agreement isn’t planned right. Knowing which structure benefits the owners and the company at key moments is essential.

Cross-Purchase Agreement:

• When a surviving owner buys out the share of a departing partner, they get a “step-up” in basis for the newly acquired shares. This means less tax if they sell the business later on, since their cost for tax purposes matches the new, higher value.
• Premiums are paid with after-tax personal funds, but payouts under the policy are typically tax-free.
• Especially useful if the owners plan to sell in the future and want to protect their personal tax position.

Entity Purchase Agreement:

• The business receives the insurance payout and buys back the departing owner’s shares, which are then retired or held as treasury stock.
• Surviving owners don’t get a step-up in basis. A future sale of their interest might lead to higher capital gains tax because their cost basis doesn’t increase.
• Premiums paid by the business are usually not deductible, but the death benefits are tax-free.
• Sometimes, alternative minimum tax (AMT) impacts or other corporate tax considerations apply and should be reviewed with a tax advisor.

Recommendation →

If protecting owners’ personal future tax positions is a top concern, a cross-purchase agreement may provide a distinct tax advantage, especially for small groups.

Administrative Complexity and Cost Considerations

Managing buy-sell agreements should not become a burden. The right choice keeps things easy as the business grows or changes hands.

Cross-Purchase Agreement:

• The number of insurance policies grows rapidly. Formula: Number of owners × (Number of owners – 1). For example, 4 partners require 12 separate policies.
• Each person must track, pay for, and update their own policies.
• More ownership changes equal more admin work, new policy purchases, and paperwork.
• Costs can climb, and mistakes are possible if policies go unchecked.

Entity Purchase Agreement:

• The company buys and manages just one policy per owner. For example, 4 partners = 4 policies.
• Adding or removing a partner is as simple as starting or ending a single policy.
• Recordkeeping, premium payments, and updates are handled centrally by the company.
• Costs and workload stay predictable, even as the ownership structure changes.

Recommendation →

For businesses with more than two or three partners, entity purchase agreements keep things orderly and manageable, not just today, but for the life of the company.

Flexibility and Future Modifications

Businesses change; owners join, leave, or want to adjust how things work. The easier the agreement adapts, the less stress down the line.

Cross-Purchase Agreement:

• When a new partner joins, every existing partner needs to buy a new policy on them, and the new partner must buy policies on all remaining owners.
• Removing a partner means canceling or reallocating all their policies.
• Keeping all coverage current can become tricky and time-consuming.

Entity Purchase Agreement:

• The business simply buys or cancels one policy for each change in ownership.
• Adjusting coverage amounts to reflect new business valuations is easier; one call or meeting updates all.
• Far less policy juggling and less risk of coverage errors.

Recommendation →

When anticipating future growth, regular owner turnovers, or ongoing changes, the entity structure offers far more flexibility with fewer headaches.

Choosing the Right Structure for Your Partnership Size

Picking the best buy-sell agreement depends largely on how many partners you have. The right choice, cross purchase or entity purchase, not only simplifies management but also ensures smooth and efficient buyouts as your business grows or changes.

Below is a practical guide to help you match the right structure with your partnership size.

Two-Partner Businesses: Optimal Structure Selection

With two partners, cross-purchase usually works best. Both partners own insurance on the other; thus, only two policies are required, making it simple to administer. Once the arrangement takes effect, the surviving partner uses the insurance proceeds to purchase the other’s interest. It also provides good tax advantages and leaves complete control in the hands of the owners.

An entity purchase would be possible if you’d like the firm to administer insurance or if one of the partners can’t get covered, but generally cross-purchase is easier and optimal for two individuals.

Multi-Partner Scenarios: Managing Complexity

When you have three to five owners, cross-purchase quickly becomes complicated because each person must have a policy on each of the other owners. Keeping track of all those policies can become a mess.

An entity purchase simplifies things; the company owns one policy for each owner. This means fewer issues to deal with and easier changes when owners join or leave.

If you prefer personal tax benefits and are willing to do the paperwork, cross-purchase is still available. But an entity purchase will often save time and headaches.

Large Partnership Considerations

For six or more owners, cross-purchase isn’t feasible; it involves too many policies.

Entity purchase is nearly always the best choice because the business has one policy per owner. This keeps management organized and makes things neat when owners change.

Some larger companies resort to hybrids or partial buyouts, but in the case of most large groups, entity purchases or hybrids are the only feasible options.

Hybrid and alternative approaches may be considered →

• Hybrid structures: A mix of cross purchase for original partners and entity purchase for new incoming owners.
• Partial or selective buyout arrangements: Only certain partners participate in buy sell agreement funding, depending on roles or share size.
• Other funding solutions: Using financing lines or a combination of insurance and corporate reserve funds for unique ownership situations.

Implementation Timeline and Professional Guidance

Getting your buy-sell agreement right means following clear steps, having the right team, and keeping it updated as your business changes. Here’s a simple guide to make your plan work when you need it most.

Step-by-Step Implementation Timeline

1. Start with a partner meeting: Discuss openly regarding the goals and select the structure, cross purchase, entity purchase, or some other set-up.
2. Build Your Team:

• Attorney: Drafts the agreement and reviews it to make sure it is legal and clear.
• CPA/Accountant: Advises on taxes and considerations as they relate to the finances under the arrangement.
• Insurance agent: Selects and places the appropriate policies.
• Valuation expert (optional but useful): Sets policy amounts by determining the current value of the business.

3. Get a business valuation: Know what your company is really worth today and agree on the intervals at which this value is updated.
4. Draft and sign documents: Work with your team to draft the actual agreement, list specific triggers and valuations, and obtain signatures from all parties.
5. Set up insurance policies: Purchase the life and/or disability insurance as required and clearly lay down its ownership and payment responsibilities.
6. Final review: Double-check all paperwork, beneficiaries, premium payments, and trigger events prior to filing the documents safely.
7. Schedule annual reviews: Arrange annual meetings to revalue, review insurance, or modify terms of the agreement as your business changes.

Why You Need a Team

A strong buy-sell agreement relies on the right experts:

• Attorneys ensure legal compliance and clear contracts.
• Accountants handle tax impacts and cash flow planning.
• Insurance agents manage policies and renewals.
• Valuation experts provide fair, current business worth to avoid disputes.

Important Documentation

Keep these organized and accessible:

• Signed buy-sell agreement with all rules and valuations.
• Insurance policy paperwork showing ownership and beneficiaries.
• Ownership and beneficiary forms.
• Any required official filings or registrations.

Keep Your Agreement Alive

• Annual review: Meet regularly to ensure your agreement still fits your business and coverage is adequate.
• Adjust when needed: Update if owners change, business value shifts, or laws update.
• Stay current on premiums: Keep payments on time—missed premiums mean no coverage when you need it.
• Follow tax and legal changes: Have your pros keep an eye on new rules that might affect your agreement.

Key Advice for Keeping Your Agreement Strong

Your buy-sell agreement works only if it’s set up right and maintained well. Get the right people involved, follow the steps, and schedule reviews. That way, you protect your business and everyone who depends on it, now and in the future.

With SWAT Advisors Make Sure Your Plan Actually Works When It Has To

A buy-sell agreement isn’t something that you just set up and forget about. It only means something when it actually works in tough times. Whether cross-purchase or entity purchase, all that matters is that its setup should make sense, run smoothly, and not collapse under pressure afterward.

We created this blog post to help business owners understand how insurance planning fits into real ownership transitions; SWAT Advisors helps one properly set up life and disability insurance in connection with these types of agreements, and we handle the tax planning that goes with it, too. So if you are thinking about setting up your future, we are here to work with you from both sides.

Reach out to us today so that we can make sure your plan actually works when it matters.

FAQs

1. What happens if a partner becomes disabled rather than dies in a cross-purchase agreement?

• • If your agreement includes disability as a trigger, the process works much like a death event. The other partners receive insurance funds, often from a separate disability policy and use them to buy out the disabled partner’s share. Make sure your agreement clearly states disability as a buyout trigger; otherwise, the buyout might not happen automatically.

2. Can we change from entity purchase to cross-purchase structure later?

• • Yes, you can switch structures, but it takes more than just updating a paper. You’ll need to create a new agreement, transfer or replace the existing insurance policies, and possibly go through underwriting again. It’s wise to talk to legal and insurance professionals because the process involves careful coordination to avoid tax and legal pitfalls.

3. How often should we update our business valuation for the buy-sell agreement?

• • At least once a year is best practice. You also should update valuations after any big changes, like new partners joining, major growth, or big deals. Current valuations keep coverage amounts accurate and prevent disagreements when a buyout occurs.

4. Are life insurance premiums tax-deductible in either structure?

• • Generally, no. Premiums paid in cross-purchase or entity purchase agreements are not tax-deductible. The IRS sees the premiums as benefiting the insured or business, so deductions usually don’t apply. The upside is that insurance payouts are typically tax-free, which helps with funding the buyout.

5. What happens to the life insurance policies if we dissolve the partnership?

• • That depends on what your agreement says. Common options are cancelling the policies and distributing any cash value, transferring ownership to individual partners to keep paying premiums, or letting policies lapse. Plan this in the contract so everyone knows what to expect when the partnership ends.