Business Planning & Owner Strategies Flashcards

Under a cross-purchase buy-sell agreement, who purchases a departing owner's business interest?

Answer: The surviving owners individually

In a cross-purchase agreement, the surviving owners personally purchase the departing owner's interest, giving them a stepped-up cost basis.

Which primary advantage does a cross-purchase buy-sell agreement provide to surviving owners compared to an entity purchase (stock redemption) agreement?

Answer: Surviving owners receive a stepped-up cost basis in the purchased interest

Because surviving owners personally purchase the interest, they receive a stepped-up basis equal to the purchase price, reducing future capital gains on a later sale.

A 'wait-and-see' buy-sell agreement is best described as one in which:

Answer: The entity has first right to purchase, followed by the surviving owners if the entity declines

A wait-and-see agreement gives the entity the first option to redeem shares; only if the entity declines do the individual owners have the option to purchase.

Which business valuation approach estimates value by dividing a company's normalized earnings by an appropriate capitalization rate?

Answer: Income approach using capitalization of earnings

The capitalization of earnings method, an income approach, divides stabilized earnings by a capitalization rate that reflects the business's risk and growth prospects.

Which business entity form avoids double taxation while providing all owners with limited liability protection?

Answer: S Corporation

An S Corporation is a pass-through entity, so income is taxed only at the shareholder level, while all shareholders enjoy limited liability.

Which business valuation method determines value primarily by comparing the subject company to recent sale prices of similar businesses?

Answer: Market approach

The market approach derives value from actual transactions involving comparable companies, using metrics such as price-to-earnings or price-to-revenue multiples.

When funding a buy-sell agreement with life insurance in a corporation with three equal owners, how many policies are required under a cross-purchase structure?

Answer: 6 policies

With three owners in a cross-purchase plan, each owner insures the other two, requiring 3 × 2 = 6 individual policies.