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Hewison Insights

When Business Buy/Sell Insurance Goes Wrong

Marcus English
Insurance Adviser
22 May 2023

Recently I was introduced to a company who wanted a review of their insurance arrangements, which included a combination of personal policies and also those designed to act as buy/sell policies – that is, protecting business ownership in the event of sudden permanent loss of a key person.

As a quick snapshot, the business is owned and run by two men, who have equal shares at 50% each. The business is valued at $4M, therefore each of their business interests represent $2M.

In a typical buy/sell arrangement, each would have insurance for $2M to act as consideration for their share of the company. They would agree on the trigger events – usually death and permanent incapacitation, but sometimes also critical illness. Therefore, the relevant insurances are death, total and permanent disablement (TPD) and also trauma/critical illness insurance.

To recap previous blogs where buy/sell insurance has been discussed, it is in effect a business estate plan of sorts. If one of the business partners were to pass away or become permanently incapacitated, their estate would be paid the $2M, and their business share would transfer to the surviving/remaining business owner. The insurance is used as a funding mechanism to facilitate the sale and transfer of shares, which is important when the exiting business partner wants to realise their equity easily.

Upon reviewing the existing policies they had in force, we identified a number of issues with their current structure.

The issues identified:

  • Inconsistent levels of insurance. One had death cover for $3.2M and TPD of $1.3M, the other for $3.1M and $1.2M.
  • Incorrect levels of insurance. Both should simply have $2M of cover. In the event of death, they are over insured and in the event of permanent disability, they wouldn’t have enough money.
  • No legal agreement. It is critical that the purpose of the insurance is carefully documented and included as part of the buy/sell and shareholders agreement. Otherwise, if one business partner does exit the business due to an insured event, their estate is not legally bound to transfer the shares to the remaining business partner.
  • Policies were owned by their self-managed super funds (SMSF). Whilst the super trustees would pay the insured benefit to the person or their beneficiaries, the ATO has confirmed an interpretative decision that the trustees of an SMSF will breach the sole purpose test where they purchase life insurance over the life of a member of the fund where the purchase of the policy is for a buy/sell agreement.

The insurances were somewhat based on a gentleman’s agreement; however, we have seen plenty of issues arise with this type of setup.

Our review focused on the following outcomes and importantly, consistency between their arrangements.


  • It was identified that each business partner still wanted life insurance beyond the $2M. However, the policies were restructured so that each held a $2M life and TPD policy owned personally for buy/sell purposes, and they each had an additional top up policy owned by their SMSF. Personal ownership of buy/sell policies avoids any capital gains tax consequences in the event of payment and is an easy-to-understand structure for all involved.
  • The business engages their lawyers to ensure the policies are included in the shareholders agreement.
  • By restructuring the buy/sell insurance, we avoid any trustee breaches within the SMSF.
  • In the event that either partner pass away or becomes permanently disabled, they/their estate is paid the $2M insurance amount, and their shares are transferred to the remaining business partner.
  • Any insurance beyond the buy/sell agreement are structured appropriately for personal purposes.

This scenario is not uncommon. If you’re reading this and you see similarities in your own business and insurance arrangements, lets discuss and make sure everything is set up correctly. Please contact me at marcus.english@hewison.com.au


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