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How Does a Stock Redemption Plan Work?

In the event of a business owner’s death or retirement, the stocks owned by that individual must be redistributed so the business and its stocks may continue to exist. Here is how a stock redemption plan, or entity buy-sell agreement, works.

Purchasing Life Insurance

At the time in which the owner comes into possession of his or her company’s stocks, he or she typically purchases a life insurance policy in the amount of the stocks owned. The company is both the policyholder and beneficiary of the policy.

Writing the Agreement

At this time, the owner also signs a document outlining the company’s commitment to purchase the owner’s stocks at an agreed-upon price should they become available upon his or her death or retirement.

Purchasing Shares

When the owner retires, the company purchases the owner’s stocks as agreed in the stock redemption plan. Should the owner die instead of retiring, the payout from the life insurance he or she bought is used to fund the purchase of the stocks at fair market price. The owner’s estate receives the cash payout and the stocks are transferred to the remaining owners.

Just because a business owner no longer has a personal interest in his or her business due to death or retirement, doesn’t mean the stocks disappear. A redemption plan is used to distribute stocks to the remaining shareholders.