A buy-sell agreement, also known as a shareholder agreement, is a legally binding contract between two or more business owners that outlines how ownership interests will be transferred in the event of certain events, such as death, disability, or voluntary withdrawal from the business. Buy-sell agreements can be funded with a variety of financial instruments, including cash, insurance, and loans. However, the question of whether or not cryptocurrency can be used to fund a buy-sell agreement is still relatively new and untested.

On the one hand, there is no legal prohibition on using cryptocurrency to fund a buy-sell agreement. In fact, some jurisdictions have even taken steps to promote the use of cryptocurrency in business transactions. For example, in 2021, the state of Wyoming enacted legislation that allows businesses to accept cryptocurrency as payment for goods and services.

California does not have any specific laws about funding a buy-sell agreement with cryptocurrency. However, the state does have some laws that regulate the use of cryptocurrency in general.

For example, the California Money Transmission Act (MTA) requires anyone who engages in the business of money transmission in California to be licensed by the Department of Financial Protection and Innovation (DFPI). The MTA defines money transmission to include the sale or issuance of payment instruments, the sale or issuance of stored value, or the receiving of money for transmission.

The DFPI has issued guidance stating that the sale and purchase of cryptocurrency directly between two parties, where neither party facilitates the exchange of fiat currency or cryptocurrency, does not meet the definition of money transmission. This means that businesses in California can generally accept cryptocurrency as payment for goods and services without a license.

However, businesses that provide services that involve investing, lending, or trading cryptocurrencies may need to register with the DFPI.

Overall, there is no legal prohibition on using cryptocurrency to fund a buy-sell agreement in California. However, it is important to consult with an attorney to discuss the potential risks and challenges involved.  Notably, SB 95 (proposed law) creates a new Division of California's Commercial Code concerning “controllable electronic records”:

This new division is intended to provide clear and concise rules for the transfer and perfection of security interests in digital assets. The division also includes provisions that address the unique characteristics of digital assets, such as their fungibility and divisibility.

The creation of a new division of the CUCC specifically for digital assets is a significant development. It is a sign that California is recognizing the importance of digital assets and is taking steps to create a legal framework that supports their use and development.

On the other hand, there are some practical challenges to using cryptocurrency to fund a buy-sell agreement. One challenge is that the value of cryptocurrency can be highly volatile. This means that the value of the cryptocurrency used to fund the buy-sell agreement could fluctuate significantly between the time the agreement is entered into and the time it is triggered. This could make it difficult to ensure that the partner's share in the company is adequately funded.

Another challenge is that cryptocurrency is not yet widely accepted in the traditional financial system. This means that it could be difficult to find a buyer for the cryptocurrency if it needs to be sold to fund the buy-sell agreement.

Overall, while it is possible to fund a buy-sell agreement with cryptocurrency, it is important to carefully consider the potential challenges involved before doing so.

Other options for funding a buy-sell agreement

If you are concerned about the challenges of using cryptocurrency to fund a buy-sell agreement, there are a number of other options available. Here are a few of the most common:

• Cash: The simplest way to fund a buy-sell agreement is with cash. This can be done by setting aside a certain amount of money each year to be used to fund the agreement. Alternatively, you can purchase a life insurance policy on each partner's life, with the proceeds of the policy being used to fund the buy-sell agreement in the event of a partner's death.

• Loans: Another option is to take out a loan to fund the buy-sell agreement. This can be a good option if you need to raise a large sum of money quickly. However, it is important to note that you will be responsible for repaying the loan, even if the company is not successful.

• Escrow: Escrow is a process in which a third party holds assets on behalf of two or more parties until certain conditions are met. In the context of a buy-sell agreement, escrow can be used to hold the funds that will be used to purchase a partner's share in the company in the event of certain events.

Life insurance remains the most common way to fund a buy-sell agreement. When using life insurance to fund a buy-sell agreement, each business owner purchases a life insurance policy on the lives of the other owners, with the business or the surviving owners as the beneficiary. In the event of a partner's death, the proceeds of the life insurance policy are used to purchase the deceased owner's share in the business.

This ensures that the surviving owners have the funds to purchase the deceased owner's share, and that the deceased owner's family receives a fair value for their share.

There are two main types of buy-sell agreements that can be funded with life insurance:

• Cross-purchase agreements: In a cross-purchase agreement, each business owner purchases a life insurance policy for the lives of the other owners. When a partner dies, the surviving owners use the proceeds of the life insurance policy to purchase the deceased owner's share in the business.

• Entity-purchase agreements: In an entity-purchase agreement, the business purchases a life insurance policy on the life of each owner. When a partner dies, the business uses the proceeds of the life insurance policy to purchase the deceased owner's share in the business.

Which type of buy-sell agreement is right for you will depend on your individual needs and circumstances. Here are some of the benefits of using life insurance to fund a buy-sell agreement:

• Affordability: Life insurance is generally a relatively affordable way to fund a buy-sell agreement. The cost of the life insurance policy will depend on a number of factors, including the age and health of the insured, and the amount of coverage desired.

• Tax efficiency: The proceeds of a life insurance policy are generally income tax-free to the recipient. This means that the surviving owners or the business can use the proceeds of the life insurance policy to purchase the deceased owner's share in the business without having to pay income taxes on the money.

• Peace of mind: Knowing that the buy-sell agreement is funded with life insurance can provide peace of mind to the business owners and their families. In the event of a partner's death, the surviving owners will have the funds to purchase the deceased owner's share in the business, and the deceased owner's family will receive a fair value for their share.

Which option is right for you?

The best way to decide which option is right for you is to consult with an attorney who specializes in business law. They can help you assess your individual needs and circumstances and recommend the best option for your business.

Here are some additional factors to consider when choosing how to fund a buy-sell agreement:

• Cost: The cost of funding a buy-sell agreement will vary depending on the option you choose. For example, cash funding will be the most cost-effective option, while taking out a loan will be the most expensive.

• Complexity: Some funding options are more complex than others. For example, setting up an escrow account requires careful planning and coordination.

• Flexibility: Some funding options are more flexible than others. For example, cash funding allows you to change your mind about the agreement at any time. However, if you take out a loan to fund the agreement, you will be obligated to repay the loan even if you decide to change your mind.

Conclusion

Whether or not a buy-sell agreement can be funded with cryptocurrency depends on a number of factors, including the laws in your jurisdiction and the specific terms of the agreement. If you are considering using cryptocurrency to fund a buy-sell agreement, it is important to consult with an attorney to discuss the potential risks and challenges involved.

There are a number of other options available for funding a buy-sell agreement, such as cash, insurance, and loans. The best option for you will depend on your individual needs and circumstances.