Can your business survive without you or your partner?

You and your business partner have worked hard to build a thriving business, but what happens if your partner dies or is unable to work? Would your partner's spouse or heirs be able to take over for your partner? If not, would you have the means to buy out your partner or your partner's heirs?

If such a situation would create a financial hardship or awkward business arrangement, then it's time for you and your partner to do some much needed planning.

Start with a frank conversation. Discuss what it would take for your business to survive without one of you. Would the remaining partner see overhead costs jump? Would their workload increase more than they could handle? How would you communicate with their family?

Once you agree on a plan of action, you need to decide how you would value your business. Generally, you and your partner should agree on a formula for determining the value of the business at a future time. This helps protect both of you should the success of your business substantially change over time.

Next, decide how you would finance a buyout from your partner or partner's family. If you both have access to substantial cash reserves, then this may not be much of an issue. But most business owners cannot simply write a check for half the value of the business. In these cases, a common option is to finance a buy out with insurance.

The most frequently used policies are a life insurance policy and a disability buyout policy. These policies both payout a lump sum benefit - one in the case of death and the other for disability - that you can use to pay for your partner's portion of the business. This can help you protect your business and livelihood during a difficult transition. And it can also help ensure that your business partner or partner's family receives a purchase price that is fair and quick.

After you research the policies that work best for you and your partner, you need to formalize your business succession plan. This is most commonly done through what is called a "buy-sell agreement." Your buy-sell agreement will detail the circumstances under which one partner will buy out the other and at what price.

There are several ways to structure your buy-sell agreement. One of the simplest and most common is called a "Cross-Purchase Plan." In a typical Cross-Purchase Plan, you and your partner would each purchase a life insurance policy and a disability buyout policy on each other. You would own the policies you purchase and be the full beneficiary of each policy. However, your partner would be the insured on these policies.

Then in the event of your partner's death or disability, you would purchase your partner's portion of the business at a price determined by your buy-sell agreement. You would make this purchase with a lump-sum payment from one of your insurance policies. And, when structured properly, the payout from the insurance company is often tax-free.

One of the advantages of a Cross-Purchase Plan is that it is a relatively simple structure. However, it may not be your best option, especially if there are multiple business partners involved. So be sure to work closely with your financial advisor and tax preparer to identify the type of buy-sell agreement that works best for you and your partner.

No matter what type of agreement you use, it is important that you and your partner prepare for the unexpected. And by putting the proper agreements in place, you can help protect your livelihood, your family, and the future of your business.

• Jim Uren, CFP, is a registered representative with Royal Alliance Associates Inc. (member FINRA & SIPC) and a financial advisor in Buffalo Grove with Phase 3 Advisory Services, Ltd (a Registered Investment Advisory Firm, not affiliated with Royal Alliance Associates). The content of this article does not constitute any legal, investment or tax advice. Be sure to consult your legal, tax and financial professionals to help you set up your buy-sell agreement.