It’s not uncommon for entrepreneurs to start their business in partnership. In fact, a huge portion of business houses across India are partnership firms. And they are doing wonderfully well. But, many entering into partnership contract ignore an important aspect; the partnership or business insurance. A sole proprietorship concern is out and out one man show; the individual may take one or more insurance policies to cover his life. However, the case differs when it comes to a partnership firm. What if a partnership firm is doing well and all of a sudden something goes wrong with one of the partners? Some of the unpleasant consequences could be:
- The problem could start off with the legal heirs of the deceased partner not co-operating.
- The spouse asking to continue with the partnership business even though he / she may not be skilled to contribute to the business.
- The spouse would want to move out of the business; may ask his / her share, but funding for the share could be a concern.
- It’s not possible to withdraw funds from the business; and if withdrawn, it could have serious implications on the business.
- Selling of the firm’s assets or closing down business.
Sometimes, these situations turn ugly and it becomes all the more important for payment of purchase price to the legal heirs on death of a partner so that the remaining partners can take control over business and there is no outside interference. A Buy-Sell agreement between the partners is the perfect solution. The partners must agree that surviving partner/ partners would buy the deceased partner’s share in the business. They also must agree that the deceased partner’s family would sell the business to the surviving partner/partners. This Buy-Sell Agreement is funded through the life insurance contract. It supports the stability and growth of business in case a partner dies. It not only provides a security blanket to all the business partners but also protects their dependents by ensuring that the right money is given to the right person at the right time.
How a partnership firm is valued:
A partnership is valued on a ‘going concern’ basis of 2.5 to 3 times the average net profit for the previous three years and this should represent the total level of life cover over all lives involved. ‘Going concern’ implies that the entity will continue its operation in the foreseeable future; and it is assumed that the entity has neither intension nor the need to liquidate its assets in the near future.
Accounts and the valuation report for the last three years, by a Charted Accountant or a lawyer are required.
Premium paid under partnership insurance is considered business expenditure under sec 37(1) of Income Tax Act 1961 and hence is tax free. However, death claim will be treated as an income and will be subject to income tax as per sec 28(vi) of Income Tax Act.
In another scenario, if a Partner resigns; the partnership gets terminated and in that case the policy is assigned in favour of the remaining partner / partners or is surrendered for the cash value.
My sincere suggestion to all the entrepreneurs entering into partnership; make little efforts; spend some time in the beginning itself and get a partnership insurance. And those who haven’t yet got it; it’s high time you signed the proposal form. Stay insured. Stay Blessed!!
About the Author:
Vandana Dubey is a Certified Financial Planner and a corporate trainer by profession. She wants to create financial awareness. She can be reached at firstname.lastname@example.org