Guides
Cross-purchase vs entity-redemption buy-sell plans
Compare cross-purchase and entity-redemption buy-sell plans on policies, cost, basis step-up, creditors and estate tax, including the 2024 Connelly ruling.
In a cross-purchase plan, the surviving owners buy a deceased owner's shares and each owner holds the life insurance on the others. In an entity-redemption plan, the company buys the shares and holds the insurance. Cross-purchase usually gives the survivors a higher tax basis and keeps proceeds out of the company's reach, but needs more policies; redemption is simpler to run but, after the Supreme Court's 2024 Connelly decision, can raise the company's value for estate tax. The right choice depends on the number of owners, the entity type, and estate size.
For the basics of buy-sell agreements and how insurance funds them, start with funding a buy-sell agreement with life insurance. This guide compares the two structures.
How each plan works
Cross-purchase. Each owner buys, owns, pays for and is beneficiary of a policy on each other owner. When an owner dies, the survivors collect the proceeds and use them to buy the deceased owner's shares from the estate. See cross-purchase agreement.
Entity redemption. The company buys, owns, pays for and is beneficiary of one policy on each owner. When an owner dies, the company collects and uses the proceeds to redeem (buy back) the shares from the estate. The shares are retired or held, and the remaining owners' percentage stakes rise. See entity-redemption agreement. Partnerships and LLCs taxed as partnerships have a close cousin, the "liquidating" or partnership redemption, with its own tax rules.
Side-by-side comparison
| Factor | Cross-purchase | Entity redemption |
|---|---|---|
| Policies required | n times (n minus 1) for n owners: 2 owners need 2, 3 need 6, 5 need 20 | n |
| Who pays premiums | Owners personally, from after-tax income | Company, often cheaper in effect when owners have different ages |
| Premium fairness | Older owners' policies cost the younger ones more | Cost shared by all owners through the company |
| Basis in shares bought | Generally stepped up by the purchase price | Generally no increase for remaining owners |
| Creditors | Policies are the owners' assets, not the company's | Cash value and proceeds are company assets and can be reached by company creditors |
| Estate tax valuation | Proceeds are not in the company's value | Proceeds can increase the company's value (Connelly) |
| Fit | Few owners, similar ages | Many owners, or a corporation wanting simplicity |
The Connelly effect
Connelly v. United States was decided June 6, 2024. Two brothers owned a building-supply corporation under an agreement that let the company redeem the first brother's shares at his death. The company bought insurance on both. After one brother died, the company used $3 million of proceeds to redeem his shares. The Court unanimously held the proceeds were a corporate asset that increased the company's value for federal estate tax, and that the obligation to redeem the shares at fair value did not offset that value (Gibson Dunn summary of the decision). The estate's deficiency was $889,914.
What follows from this:
- The ruling affects owners whose estates are large enough to owe estate tax. The federal basic exclusion is $15,000,000 per person in 2026 according to the IRS, but a few states set taxable estates much lower; see state estate and inheritance taxes and life insurance.
- It affects redemption plans, not cross-purchase plans, because in a cross-purchase the company does not own the policies.
- It does not make life insurance taxable to beneficiaries as income. It is a valuation issue for the estate tax.
- It does not mean insurance should be dropped. The agreement still needs funding, and the structure can be changed.
Why not just use cross-purchase?
Three practical limits keep redemption plans in use.
- Too many policies. With six owners, cross-purchase needs 30 policies, and every ownership change requires reshuffling them.
- Uneven cost. If one owner is 62 and another is 38, the younger owner pays far more to insure the older one than the older one pays for the younger.
- Premium funding. Owners pay with after-tax personal dollars, while a company can sometimes pay from retained earnings.
Workarounds exist. An entity can be set up to hold all the policies (a partnership, LLC or trust, sometimes called a "trusteed cross-purchase" or "insurance LLC") so the number of policies drops to one per owner while the proceeds stay outside the operating company. Another option is a "wait-and-see" agreement that lets the parties choose between the company and the owners after a death. Each carries documentation and tax detail.
Transfer-for-value and switching plans
Moving existing policies from one structure to another can run into the the transfer-for-value rule. In general, a policy transferred for something of value can lose income-tax-free treatment of the death benefit beyond the buyer's cost, unless an exception applies. The statutory exceptions are transfers to the insured, to a partner of the insured, to a partnership in which the insured is a partner, or to a corporation in which the insured is a shareholder or officer. Because a corporation-to-owners shift may involve a partner or shareholder, a change often works, but only if each step is documented properly. S corporation and partnership rules differ from C corporation rules.
Premium deductibility and the employer-owned rules
Under IRC section 264(a)(1), premiums are not deductible when the taxpayer is directly or indirectly a beneficiary of the policy, so neither structure produces a deduction. A company-owned policy on an owner is "employer-owned life insurance," so the notice, consent and Form 8925 rules of IRC section 101(j) apply; the mechanics are in key person life insurance.
A short decision guide
- Count owners. Two or three owners lean cross-purchase; many owners lean redemption or a trusteed cross-purchase.
- Estimate estate size and state tax. If a federal or state estate tax is plausible, model the Connelly effect with the estate tax exposure check.
- Compare ages and health. Large age gaps make cross-purchase costs lopsided.
- Check the entity type. C corporations, S corporations, partnerships and LLCs each change the analysis.
- Plan for change. Choose a structure you can unwind if owners join, leave or die.
A hypothetical: say two 50-year-old partners each own half of a $4 million company taxed as a C corporation. A cross-purchase needs only two policies of $2 million each, and the survivor gets a stepped-up basis. Redemption is simpler to administer but puts $2 million of proceeds inside the company. The tax and legal differences are real enough that a business attorney and CPA should model both before you sign.
Key takeaways
- Cross-purchase: owners hold policies on each other and buy the shares; redemption: the company holds the policies and buys the shares.
- Cross-purchase generally gives a stepped-up basis and keeps proceeds out of company reach but requires many policies as owners grow.
- Connelly v. United States (2024) held company-owned proceeds raise the company's estate tax value, which matters only where estate tax is plausible.
- Switching structures can trigger the transfer-for-value rule if done carelessly.
- Neither plan gets a premium deduction under IRC section 264(a)(1).