How the Connelly Decision Changed Entity-Purchase Buy-Sell Planning

Many closely held businesses use entity-purchase agreements funded with company-owned life insurance. After Connelly, those arrangements may produce a higher estate value than the owners expected. Whether the contractual purchase price also changes depends on the agreement's terms and valuation process.

This is an area for the client's attorney and CPA to evaluate; the financial review helps quantify what may be affected.

Connelly v. United States was decided on June 6, 2024. The dispute concerned the federal estate-tax value of a deceased shareholder’s interest in a closely held company that received life insurance proceeds and used them to redeem his shares. The Supreme Court concluded that a corporation’s obligation to redeem shares at fair market value does not necessarily reduce its value for this purpose.

The key issue is the treatment of the proceeds and the redemption obligation in valuing the company at death. The insurance money was an asset of the company. Paying fair market value to redeem shares did not make the redemption obligation an offset that erased that asset from the valuation. Owners should not assume that earmarking proceeds for a buyout means they are excluded from company value.

The decision did not ban entity-purchase agreements, require every business to adopt cross-purchase, or automatically rewrite every agreement’s purchase price. Its implications depend on the client’s structure, policy ownership, valuation provisions, and estate circumstances. The attorney, CPA, and qualified valuation professional should determine how the holding applies to the particular situation.

An agreement may determine the purchase price through a fixed amount, formula, or appraisal. The federal estate-tax value of an interest is a different question. Those numbers can differ, and an agreement’s price is not automatically binding for federal estate-tax valuation. The applicable legal requirements need to be evaluated by the client’s counsel and tax advisors.

This distinction matters when calculating a potential funding gap. If the contract price excludes insurance proceeds, a higher estate-tax value does not by itself make the purchaser owe the higher number under the contract. If the contract’s valuation process includes proceeds, the purchase obligation may be affected. Both outcomes deserve attention, but they should not be described as the same problem.

A family could face estate-liquidity issues even if the company has enough money to pay the contract price. Conversely, the purchase price might exceed the insurance available even where estate tax is not ultimately payable. Review the contract obligation, the potential estate value, and any estate-liquidity needs separately, then coordinate them as parts of one financial plan.

Consider the simplified example above: a business worth $6 million before a death receives $3 million of company-owned insurance. Including the proceeds gives a rough $9 million company value, and an equal owner’s interest would be roughly $4.5 million before other relevant adjustments. That illustration shows why the proceeds cannot simply be ignored in the estate-tax valuation discussion.

It does not establish that the agreement necessarily requires a $4.5 million redemption. That depends on its terms and the applicable valuation process. It also does not calculate estate tax, which depends on many other facts. The illustration assumes equal ownership and simplified values; real analysis may consider debt, other assets, ownership rights, and valuation standards.

Adding more company-owned insurance is not automatically a complete answer. Additional proceeds may themselves affect the valuation analysis, and the company still needs resources to operate after losing an owner. Rather than solving the example with a single coverage calculation, ask the advisors to evaluate the structure and the relevant valuations before deciding how much insurance or other funding is appropriate.

The first step is an inventory of the agreement, ownership, policy records, and current valuation assumptions. Confirm whether the company is the policy owner and beneficiary and whether it is required to redeem the interest. Review any price certificates or amendments. An arrangement should not be evaluated solely from its label or from the owners’ recollection of what they intended years ago.

Counsel and the CPA may consider retaining the structure with appropriate changes, a cross-purchase approach, or other arrangements suitable for the client. Administrative complexity, insurability, premium costs, entity type, and estate planning all matter. Existing policy transfers can raise transfer-for-value and other issues; a structural change should be planned before coverage is moved or canceled.

A coordinated financial review helps show the money implications of the professionally evaluated options. It compares the expected purchase obligation and liquidity needs with current coverage and other resources. Buy Sell Advisory can assist with that funding work, while the client’s attorney provides legal advice, the CPA addresses tax questions, and a qualified valuation professional provides any necessary appraisal.

A redemption is not the only financial consequence of an owner’s death. The company may lose management, client relationships, or specialized expertise. It may need working capital, replacement personnel, or time to stabilize earnings. Do not count the same insurance proceeds twice—once for buying the shares and again for keeping operations running.

Separate buy-sell funding from other business-continuity needs and from the family’s personal liquidity needs. That distinction makes it easier to see where each dollar is intended to go. If a policy is being relied on for more than one purpose, the owners should understand how the allocation would work and whether the total is sufficient.

After the review, assign responsibility for any agreed changes and for confirming they are completed. Revisit the analysis when value, ownership, or coverage changes. Connelly is a reason for informed coordination, not a reason to assume that one insurance product or one structure resolves every business’s planning needs.