Buy-Sell Agreement for an LLC in Texas, Explained

My post contentYou and your partner set up the LLC. You picked a name, got the EIN, opened the bank account. Somebody downloaded a company agreement, and you both signed it.

Now ask a harder question. If your partner died tonight, who owns his half on Monday?

You? His wife? His kids? His estate?

If you're not sure, you're not alone. A lot of owners never got that far. That's what a buy-sell agreement is for.

I'm Harvey Baker Jr., a licensed Texas agent in McKinney. I work with North Texas owners who run shops, practices, and crews of about 5 to 50 people. Here's how a buy-sell works for an LLC, in plain English.

What a buy-sell agreement does

A buy-sell agreement is a written deal between the owners. It says what happens to an owner's share when something big changes.

It usually answers three questions:

• Who can buy the share, or who has to

• At what price, or how the price gets set

• With what money

In a Texas LLC, the owners are called members. Texas law calls the main governing document a company agreement. A lot of people call it an operating agreement. Same idea. The buy-sell terms can live inside the company agreement or in a separate document. Your attorney will know which makes sense.

What can happen without one

When there's no clear plan, the share doesn't just disappear. It goes somewhere.

• A member dies. Their share may pass to their spouse or estate. Depending on your company agreement and Texas law, that person may end up with a right to profits, a say in decisions, or something in between. You may not like the answer.

• The family needs cash. The business needs time. The family wants to be bought out. The surviving owner may not have the money. Now everyone's stuck.

• Nobody agrees on the price. The family thinks the share is worth a lot. The surviving owner thinks it's worth less without the person who just died. That's how friendships end up in court.

None of this is about bad people. It's about no plan.

The triggers a buy-sell should cover

Death gets the attention, but it's not the only trigger. A good buy-sell usually spells out what happens when a member:

• Dies

• Becomes disabled and can't work for a long stretch

• Wants to retire or leave

• Gets divorced (Texas is a community property state, so ask your attorney how a spouse's interest could come into play)

• Files for bankruptcy

• Gets removed for cause, if your agreement allows that

• Deadlocks with the other members and someone needs a way out

Disability is the one owners skip most. Being alive but unable to work can be harder on the business than a death. I wrote more about that in Disability Coverage for Owners: If You Can't Work, Who Runs It?

How the price gets set

This is where a lot of agreements fall apart. The common ways to set a price:

• A fixed price the members agree on and update on a schedule

• A formula, tied to something like earnings or book value

• An outside appraisal when the trigger happens

Each one has trade-offs. A fixed price is simple, but it goes stale if nobody updates it. A formula can miss what the business is really worth. An appraisal takes time and costs money.

Whatever you pick, put a date on the calendar to look at it again. A price from five years ago probably doesn't match the business you run today. Your CPA can help here.

How the buyout gets funded

A buy-sell that says "the other members will buy the share" doesn't help much if nobody has the money.

Common ways owners fund a buyout:

• Life insurance on each member, so there's cash when it's needed most

• Disability buyout coverage, for the long-term disability trigger

• Payments over time, using a promissory note

• Cash the business has set aside

Many agreements use a mix. Life insurance is common for the death trigger because the money shows up when the business is most stretched. I go deeper in How to Fund a Buy-Sell Agreement With Life Insurance.

Who buys: the members or the LLC

There are two basic setups:

• Cross-purchase: The other members buy the share themselves.

• Entity redemption: The LLC buys the share back.

Some agreements combine the two. The choice affects who owns any life insurance, how many policies you need, and how the deal gets taxed. That last part is a CPA question, not a guess. More here: Cross-Purchase vs. Entity Redemption: Buy-Sell Basics in Plain English.

Hypothetical example for illustration only: Picture a three-member LLC in Denton that runs a commercial cleaning company. Each member owns a third. In this example, their company agreement says the LLC buys back a member's share at a price they review every year, and the buyout is funded with life insurance the LLC owns on each member. One member dies unexpectedly. His wife gets paid for his share. The two surviving members keep running the company without a new co-owner they didn't pick. Without the agreement or the funding, his wife might own a third of a business she doesn't want to run, and the other two might not have the cash to buy her out.

What your buy-sell should answer

Before you sign, or before you dust off the one you have, make sure it answers these:

1. What events trigger a buyout? Death, disability, retirement, divorce, and leaving all count.

2. Is the buyout required or optional? For the buyer, the seller, or both.

3. Who buys? The other members, the LLC, or a mix.

4. How is the price set, and when was it last updated?

5. Where does the money come from?

6. How long does the buyer have to pay?

7. Does it match your company agreement, or do the two documents fight each other?

If you have partners, it also helps to look at the bigger picture. I wrote about that in Life Insurance for Business Partners: Turning a Handshake Into a Plan.

Questions to ask yourself

• If my partner died tomorrow, would I want to be in business with their spouse?

• Could I afford to buy them out without a loan?

• When did we last read our company agreement?

• Does our agreement say anything about disability?

• Do our families know what we agreed to?

If those answers make you a little nervous, good. That's the point of asking them now.

Nothing in this article is tax, legal, or financial advice. Buy-sell agreements and company agreements are legal documents, so have a Texas attorney draft or review yours, and talk with your CPA about valuation and taxes. Coverage, eligibility, and rates vary by carrier and health.

Get your Gap Map (free, 20 minutes)

If you want a clean starting point, I built a one-page Gap Map: where your home, your business, and your exit still depend on one person. Three columns. Plain English. You keep it either way, whether you buy anything or not.

Call or text 430-373-7752 with the word MAP for a free one-page Gap Map. Or learn more at bakerlegacypartners.com.

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Insurance products involve costs, limitations, exclusions, and suitability considerations. This article is educational and is not tax, legal, securities, or financial advice.

Harvey Baker Jr., Licensed Texas Life, Accident & Health Agent, TX License #3470534. Coverage, eligibility, and rates vary by carrier and health.