What Is an Unfunded Buy-Sell Agreement?
An unfunded buy-sell agreement is a contract that specifies what happens when a partner leaves or dies. It names the price, the trigger events, and the process for a buyout. What it does not include is the money to make any of it happen.
The agreement is legally valid. If a partner dies and their family refuses to sell at the agreed price, you can take legal action. But enforcement does not create cash. You still have to find hundreds of thousands of dollars to fund the buyout — while running a business that just lost one of its owners.
Unfunded buy-sell agreements are common among businesses that formed years ago, added a buy-sell requirement to their operating agreement, and moved on without ever attaching a payment mechanism. The contract exists. The money does not.
What Is a Funded Buy-Sell Agreement?
A funded buy-sell agreement pairs the legal contract with a financial mechanism that makes the money available when a trigger event occurs. The two parties agree on the price and the process in the contract. They also put a funding mechanism in place before anyone needs it.
The most common trigger events a funded buy-sell agreement covers are death, permanent disability, retirement, voluntary exit, divorce, and bankruptcy. Each trigger requires the business or the surviving owners to purchase the departing owner’s interest. Without a funding mechanism, that purchase depends entirely on cash that may not exist at the time.
Why an Unfunded Agreement Fails at the Worst Moment
The problem with an unfunded agreement is not what it says. It is what it cannot do.
When a partner dies, the surviving owner has a contract that says the deceased partner’s family must sell their share at the agreed price. The family has a partner who died, a business they suddenly co-own, and no legal reason to hurry. Business estates in Georgia go through complex probate, which typically takes 18 to 30 months. During that time, the deceased partner’s share is an asset of the estate, and the estate controls what happens to it.
To enforce the contract, the surviving owner must come up with the buyout money from their own accounts, business cash flow, or a bank loan. A business that just lost a key owner is not an attractive loan candidate. If the surviving owner cannot produce the money, the agreement is unenforceable in practice — even if it is valid on paper.
The practical result of an unfunded buy-sell agreement is often one of three outcomes:
- The surviving owner negotiates with the deceased partner’s family for months or years with no agreed price and no mechanism to force a sale
- The surviving owner drains personal savings or business accounts to fund a buyout that was never planned for
- The deceased partner’s family becomes a passive co-owner of the business — a spouse, adult children, or an estate — with full economic rights and no operational role
A funded agreement eliminates all three outcomes by making the money available the moment it is needed.
How Georgia Business Owners Fund Buy-Sell Agreements
There are four common ways to fund a buy-sell agreement. Three have significant practical limitations.
Life insurance is the most widely used method. A policy is placed on each owner’s life, with the death benefit sized to match the buyout value. The money is available within days of a claim. The premium is paid with after-tax dollars (not deductible under IRC § 264), but the structure guarantees the funds will exist when needed. See how much business succession planning costs in Georgia for a full pricing breakdown. For death and disability triggers, life insurance is the only method that provides certainty.
Accumulated earnings means setting aside business profits over time in a sinking fund earmarked for a future buyout. This is the least reliable approach. There is no guarantee the fund will be large enough when an owner dies, and the cash is exposed to business creditors, lawsuits, and operating needs while it sits in the company.
Installment payments mean the surviving owner pays the buyout over time, often across 5 to 10 years. The deceased partner’s family becomes a creditor of the business. If the business struggles after the owner’s death, the family may receive partial payment or nothing. The surviving owner also runs the business while servicing a long-term debt to their former partner’s estate.
Bank financing requires the surviving owner to borrow the buyout amount from a lender. A business that just lost an owner is a riskier credit risk. Interest costs, approval delays, and collateral requirements make borrowing a poor substitute for insurance, especially at the moment when the business needs stability, not new debt.
Entity Redemption vs. Cross-Purchase — The Two Funded Structures
Once you decide to fund your buy-sell agreement with life insurance, you choose between two structures: entity redemption or cross-purchase. The choice determines who owns the policies, who receives the death benefit, and — critically — your tax exposure after an owner dies.
Entity redemption (also called a stock redemption or company purchase agreement) means the business entity owns a life insurance policy on each owner. When an owner dies, the company receives the death benefit and uses it to buy back the deceased owner’s interest. Under O.C.G.A. § 14-11-601, a Georgia LLC operating agreement can restrict membership interest transfers and require the company to purchase a departing member’s interest — entity redemption is the funded structure that implements this in practice. One policy per owner is required regardless of how many owners the business has.
Cross-purchase means each owner personally buys a life insurance policy on every other owner. When an owner dies, the surviving owners receive the death benefit personally and use it to buy the deceased owner’s interest directly from the estate. Two owners require 2 policies. Three owners require 6 policies. Four owners require 12 policies. Five owners require 20 policies. The administrative complexity grows significantly with every additional owner.
Both structures accomplish the same legal goal: the deceased owner’s interest is purchased and control transfers cleanly. The difference is tax treatment — and that difference became larger after a unanimous Supreme Court ruling in June 2024.
The Connelly Ruling — Why Entity Redemption Just Got More Expensive
In Connelly v. United States (decided June 6, 2024), the U.S. Supreme Court ruled unanimously on a question that directly affects entity-redemption buy-sell agreements: do life insurance proceeds owned by a company increase the company’s fair market value for estate tax purposes?
The Court said yes — and ruled that the redemption obligation owed to the deceased owner’s estate does not offset that value as a liability.
Before the ruling, many practitioners structured entity-redemption agreements on the assumption that the insurance proceeds and the redemption obligation would cancel out for estate tax purposes. A company receives $1 million in insurance proceeds and owes $1 million to the estate — a wash, with no net increase in company value or estate tax exposure.
Under Connelly, that assumption is wrong. The insurance proceeds inflate the company’s fair market value. The estate tax is calculated on that higher value. The deceased owner’s estate ends up larger for tax purposes than it was the day before he died.
For most Georgia business owners, total estate size remains below the current federal estate tax threshold of approximately $13.6 million (2024). But that threshold is scheduled to drop significantly after 2025 when the Tax Cuts and Jobs Act provisions expire. Business owners whose estates are near the threshold — or who could be pushed over it by a Connelly-inflated company valuation — need to review their structure.
Cross-purchase agreements avoid the Connelly problem entirely. The insurance proceeds never pass through the company. The surviving owners receive them personally, purchase the deceased owner’s interest directly from the estate, and the company’s fair market value is unaffected by the insurance payout.
Georgia business owners with existing entity-redemption structures should have their buy-sell agreements reviewed by an attorney. Structures drafted before June 2024 may not account for this ruling.
Which Structure Is Right for Your Georgia Business?
The right structure fits within a complete succession plan. For an overview of all the planning tools Georgia business owners need, see best estate planning for Georgia business owners.
For most two-owner Georgia businesses, cross-purchase is the better structure. Two policies is a manageable number, the Connelly problem is eliminated, and the surviving owner receives a basis step-up on the purchased interest equal to the purchase price — reducing future capital gains exposure when the business is eventually sold.
For businesses with three or more owners, the policy count under cross-purchase becomes an administrative burden. A common solution is a trusteed cross-purchase arrangement, where a single trust holds all the policies on behalf of the owners. This simplifies administration without routing proceeds through the company.
For Georgia S-Corps, the structure must account for S-Corp shareholder restrictions. Not all trusts qualify as S-Corp shareholders. Transferring shares to an ineligible holder — even temporarily during the insurance settlement process — can terminate the S-election and eliminate the tax benefits that make the S-Corp valuable. The buy-sell agreement and the funding structure must be drafted to preserve S-Corp status throughout the transition.
For Georgia LLCs with existing entity-redemption structures, the Connelly ruling creates an immediate reason to review the agreement. The legal structure that made sense before June 2024 may produce a materially different tax outcome for the estate today.
Funding structure is one of several problems that make buy-sell agreements fail in Georgia. For the full list of drafting and structural problems to check for, see problems with buy-sell agreements in Georgia.
At The Hive Law, buy-sell agreement review and drafting costs $1,500 to $3,000 as a flat fee for a standalone agreement. If the buy-sell is part of a complete business succession plan, the engagement covers the operating agreement coordination, entity transfer mechanics, trust structure, and funding review together.
An unfunded buy-sell agreement is one of several ways a Georgia business succession plan can fail. For a full list of the most common problems across all three succession documents, see Problems With Business Succession Plans in Georgia.
