see also: Key Person coverage: DISABILITY

As with any buy-sell agreement, the problem to be solved involves providing funding to a business owner who is no longer able to function as a company officer, either due to death or disability.

As with life insurance, Congress has chosen to have the benefits nontaxable and the premiums nondeductible. Bear in mind, however, the premiums paid on the part of the employer for the employee's benefit are indeed taxable as ordinary income; premiums paid to benefit an entity, such as a corporation, are not deductible but still enjoy the favorable tax-status.

There are typically two situations where a disability may create adverse consequences for a business: the first involves the loss of services of the key person, executive, or owner, and the second involves a situation where, due to a permanent disability, it may be advisable to buy the interest of that key person or owner. The disabled owner may make claims upon the business, and that may become untenable. Disability Buyout insurance is commonly used to help provide the funding needed for this type of buy-sell agreement. For many years one of the primary problems in drafting this type of agreement, namely for disability buyout protection, was the matter of funding in the event of disability. This problem was so vexing, in fact, that many, if not most, buy-sell agreements did not take disability into account. The problem has been answered, somewhat, by the development of tailored-to-fit business-purchase disability policies; of course, in a drafting any disability buy-sell agreement, it is important to know what kind of policy will fund the agreement, since each policy produces different results. The types of policies most generally available are lump-sum policies, designed to provide funding for the disabled stockholder or partner's share of the business, or a periodic payment policy, with equal payments being made over time, based on the continuing disability of the owner. There can also be a combination of the two.

The advantages of a properly funded disability buy-sell are extensive; since your probability of disability is much greater than death, it seems prudent to plan for this type of eventuality:

• the agreement, and funding, assures everyone of a predetermined, definite price and buyer under mutually agreeable conditions.
• it creates an 'automatic market price' for the business interest.
• it assures customers and creditors, employees and investors of business continuity.
• the active owners retain full control with no loss in business management.
• and, the funded agreement guarantees funds are available to execute the purchase.

As always, the tax considerations of any funded buy-sell agreement, whether life or disability, should be carefully considered and reviewed prior to any funding mechanism.

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