Buy/Sell Agreements Explained

What a buy/sell agreement is (and is not)

A buy/sell agreement is a contract between the owners of a business — typically the shareholders of a private company, the partners of a partnership or the unit holders of a unit trust — dealing with the transfer of an owner's interest on defined trigger events. It is a targeted document; it does not replace the company constitution, shareholders' agreement, partnership deed, unit-holders' deed, trust deed, succession plan or Will, and it does not itself create insurance cover. Sole traders do not hold transferable shares in their own name, so a buy/sell agreement is not directly available in that structure; succession is addressed through business sale arrangements, restructure or estate planning.

The related instruments have distinct functions. A shareholders' or partnership agreement governs the ongoing relationship between owners. Insurance policies supply funding only; they do not transfer shares, units or partnership interests. Option and put/call deeds set out how transfers are triggered and priced. A succession plan sits over all of this and coordinates the personal, estate, tax and business elements.

The practical objectives are to identify who acquires the departing owner's interest, on what terms and how the price is funded, and to reduce the discretion exercised at an emotionally difficult moment.

Who is bound

Contractual privity is the starting point, but the position is more nuanced than a rule that only signatories, or those who sign a deed of adherence, can ever be bound. Careful drafting matters because different classes of person are affected in different ways:

• the estate of a deceased owner who was a party — the deceased's contractual rights and obligations may survive death and be enforceable by or against the estate through the legal personal representative, depending on the terms of the agreement, the construction of the obligation, applicable succession law and whether the obligation is personal to the deceased. A properly drafted option or compulsory-transfer mechanism may accordingly continue to bind through those surviving contractual obligations, and an LPR is not universally required to sign a deed of adherence before performing an existing deceased-party obligation;
• a trustee in bankruptcy of an owner, whose rights and obligations are not simply those of an ordinary voluntary successor and are subject to the Bankruptcy Act 1966 (Cth), including disclaimer, voidable-transaction and creditor rules;
• a liquidator, voluntary administrator or receiver of a corporate owner, whose position is governed by the Corporations Act 2001 (Cth) and its insolvency and voidable-transaction regimes;
• a spouse or partner who is not a party — they are not bound merely by the agreement, and the agreement cannot oust the powers of the Family Court or Federal Circuit and Family Court under the Family Law Act 1975 (Cth);
• the company itself, a trustee of a shareholding trust or an insurer — where the company is itself a contracting party it remains a party notwithstanding changes in its controllers or directors, and does not need to sign again merely because ownership changes; and
• incoming voluntary owners and transferees, who should execute the required accession deed or deed of adherence where the constitution, shareholders' agreement or buy/sell agreement makes that the admission mechanism.

Transfers on death or incapacity must also be executed in accordance with the company constitution or partnership or trust deed and any statutory transmission and registration requirements. Where the parties want a new incoming owner, a trustee or another third party bound prospectively, the agreement or a related deed should say so expressly.

Trigger events

Trigger events are drafting choices. Common triggers include:

• Death of an owner;
• Total and permanent disability or incapacity, defined by reference to the agreement (not automatically the definition in an insurance policy);
• Trauma or critical illness, again defined in the agreement;
• Retirement or voluntary exit after a notice period;
• Resignation from an operational role;
• Bankruptcy or insolvency of an owner or corporate owner; and
• Relationship breakdown or a court order affecting the owner's interest.

Policy definitions, waiting periods, exclusions and claims processes rarely mirror contractual triggers. The agreement should state clearly when the trigger occurs, how it is evidenced (for example, medical certification, court order or insurer determination), and what happens between the trigger and completion. It should also set out the interaction with the company constitution, partnership or trust deed and any statutory transmission procedure.

Death of an owner

On the death of an owner, the shares, units or partnership interest and any related contractual rights form part of the estate or transmit under the governing legal framework, and pass to the legal personal representative for administration. The company's or trust's underlying business assets do not pass under the deceased owner's Will merely because shares or units do; they remain assets of the company or trust and are dealt with under the relevant governing documents.

A buy/sell agreement usually requires the legal personal representative and surviving owners to complete a transfer of the deceased's interest on defined terms, and specifies how the price is funded. Coordination with the Will, any testamentary trust, the company constitution and the share transfer process is essential. For broader context on the estate administration of a business interest, see our companion article on what happens to a business when an owner dies.

Incapacity and disability

Decision-making authority for a person who has lost capacity is governed by their enduring power of attorney, any guardianship order or, in Victoria, an administration order made by VCAT under the Guardianship and Administration Act 2019 (Vic). Those decision-makers act subject to statutory duties and cannot exercise a power beyond the terms of the instrument or order. The contractual definition of "incapacity" or "total and permanent disability" in the buy/sell agreement is independent of, and may differ from, the definition in an insurance policy. An agreement can require a compulsory transfer on a defined event, but it cannot promise that an insurance payout will be made, that a particular medical or legal determination will be reached, or that a decision-maker will exercise their powers in any specific way.

Valuation

Valuation methods are transaction-specific and should be chosen with the structure, industry and owner mix in mind. Common approaches include:

• Agreed value. The owners record a current value in a schedule and update it periodically. Simple, but the recorded figure may drift out of date.
• Periodic review or indexation. A scheduled review at defined intervals, sometimes with an indexation clause between reviews.
• Formula. A defined multiple of EBIT, EBITDA or revenue with agreed adjustments (for example, net debt and working capital) and stated inputs.
• Independent valuation. A nominated valuer, or a valuer appointed by a professional body, values the business at the trigger date.
• Expert determination. An expert is appointed to determine the value on defined terms, often with the parties agreeing that the determination is binding except in limited circumstances.

The agreement should identify the valuation date, who appoints and pays the valuer or expert, the timetable and whether the result is binding or subject to review. Any control, minority or marketability discount should be addressed expressly only where contractually and professionally justified. No valuation method guarantees "fair market value", liquidity or the absence of dispute, and disputes over inputs and assumptions are common.

Funding structures

Funding sources commonly used include:

• life, TPD or trauma insurance proceeds;
• company or trust funds, retained earnings or working capital;
• vendor finance from the departing owner or their estate on defined terms;
• third-party debt or bank finance; and
• equity injections from incoming or existing owners.

Insurance is often used to fund death and disability triggers, but it must be underwritten and maintained, and cover is not always available on acceptable terms. Ownership structures include self-owned, cross-owned, trust-owned and company-owned policies. Each carries distinct consequences for who controls the proceeds, exposure to the owner's creditors and estate, the company's solvency and the tax treatment of premiums and proceeds. No structure is universally best, and the selection depends on the business structure, the owners' personal positions and current tax settings.

The buy/sell agreement and the funding arrangements must be coordinated: proceeds and purchase price should align, shortfalls should have a defined treatment (staged payments, discount or option to withdraw) and surpluses should not be assumed to accrue to a particular party without express drafting. Gaps and surpluses do not resolve themselves.

Company-funded acquisitions

Where the company itself buys back or funds the acquisition of the departing owner's shares, the Corporations Act 2001 (Cth) imposes controls, including the share buy-back and capital reduction requirements in Part 2J.1, the financial assistance provisions in Part 2J.3 and the requirements to remain solvent. Directors must also comply with their duties under ss 180–184, including the duty to act in good faith in the best interests of the company and for a proper purpose, and must consider creditor interests when the company is or may become insolvent. The company constitution and any shareholders' agreement may impose additional restrictions. A buy/sell agreement cannot displace these requirements.

Tax considerations

Tax outcomes under a buy/sell arrangement depend on the structure of the business, the ownership of any policy, the identity of the beneficiary, the purpose of the arrangement, whether consideration was given for the interest and the current tax law and ATO guidance. Categorical statements about CGT, cost base, application of CGT events, small-business CGT concessions, deductibility of premiums, income-tax treatment of proceeds, Division 7A of the Income Tax Assessment Act 1936 (Cth), stamp duty or "tax-free" proceeds should be avoided without case-specific accounting and legal advice. Restructures, related-party transfers and company-funded acquisitions in particular require careful review. Practitioners should confirm current positions on the ATO website and in current legislation before relying on any tax outcome.

Bankruptcy, insolvency and family law

A buy/sell agreement cannot override the Bankruptcy Act 1966 (Cth), the Corporations Act 2001 (Cth), voidable transaction rules or the rights of creditors, trustees in bankruptcy, administrators, receivers or liquidators. A compulsory-transfer clause on bankruptcy or insolvency may be subject to those laws, including provisions affecting anti-deprivation and property vesting. Similarly, provisions dealing with relationship breakdown cannot bind the Family Court of Australia or oust the Family Law Act 1975 (Cth); the court retains jurisdiction to make orders altering property interests, although contractual valuation and transfer mechanics may be relevant to those proceedings.

Directors' and nominees' duties

Owners who are also directors, and their nominees, remain subject to their fiduciary and statutory duties under the Corporations Act 2001 (Cth), including ss 180–184. A buy/sell agreement cannot displace those duties. Where a transaction under the agreement raises a conflict of interest, or affects the company's solvency or creditor position, directors must apply the ordinary process for managing conflicts and making informed decisions.

Restraints of trade

A buy/sell agreement often seeks to restrict the departing owner from competing with the business, soliciting clients or poaching staff for a defined period and area. Whether a restraint is enforceable depends on whether it protects a legitimate business interest and is no wider than reasonably necessary as to activity, area and duration on the facts. Enforceability is ultimately for a court applying the applicable state common law and, in some jurisdictions, statute (for example, the Restraints of Trade Act 1976 (NSW)). Cascading restraints improve the prospect of partial enforcement but do not guarantee it.

Shareholder deadlock and dispute mechanisms

A buy/sell agreement can also address deadlock and fundamental disagreements between owners that do not involve death or incapacity. Shotgun clauses, Russian roulette clauses, put/call options, drag-along and tag-along rights and staged dispute resolution (negotiation, mediation, expert determination or arbitration) are different tools with different consequences. Each should be designed with the specific business and owner mix in mind rather than adopted as a standard form.

Common drafting issues

• Agreement and policies out of sync. Policy sums insured drift below the agreed price, ownership structures change or trigger definitions in the policy no longer match the agreement.
• Vague trigger definitions. Undefined concepts such as "long-term illness" or "serious disability" leave the question to the parties at the worst possible moment.
• No fixed valuation date. Without a clear valuation date the parties may argue between the date of the trigger event, the date of completion or the most recent scheduled valuation.
• Personal guarantees not addressed. Guarantees given by a departing owner should be released, indemnified or refinanced as a condition of completion; this depends on the guaranteed creditor and cannot be assumed.
• Loan accounts and Division 7A. Director loan accounts, unpaid present entitlements and any Division 7A loans should be identified and dealt with expressly.
• No review clause. The agreement and funding arrangements should be reviewed at agreed intervals and on material events such as new owners, restructures, changes to insurance and significant growth or contraction of the business.

For broader business succession planning, see our companion articles on business succession planning and why every business owner needs an exit strategy.

Frequently Asked Questions