An event such as death, disability, expulsion, or decision to quit will either trigger an option to purchase, a right of first refusal, or the right to force a sale. The party with this right will then need to give notice of their decision to exercise that right. This means they’re going to buy the other owner’s interest. But where do these people or the company get the money to buy the interest?
Cash is one option. But that means that the company needs to keep cash on hand or that an owner needs to have enough cash to pay for the interest. Another option is a loan. But that assumes that the company or owner can get one. And who knows what interest rates will be like. The final option is owner financing. The owner buying the interest agrees to make a down payment (normally 20% to 30%) and then purchase the remaining amount in installments (normally three to five years).
There are other options for the events of death and disability. The company or each member may buy life insurance policies on each other to purchase the deceased member’s interest. The company or its owners may also buy a disability insurance policy on its owners. You’ll need to consider things such as the policy amount, the age of the owners, and various types of policies. You’ll also need to consider the tax consequences of your decision. The same consideration applies to disability insurance which may cover the cost of a buyout when an owner is considered disabled.