What Happens If Your Business Partner Dies? Why Every Partnership Needs a Cross-Option Agreement

The Scenario Nobody Plans For

You have spent years building a business with your partner. You know each other’s strengths, trust each other’s judgement, and have a shared vision for the company’s future. Then one of you dies.

Without proper planning, the deceased partner’s shares pass through their estate — potentially to a spouse, an adult child, or someone else entirely. That person is now your new business partner. They may have no interest in the business, no relevant experience, and no obligation to agree with your decisions. Or worse, they may want to sell their shares immediately — forcing a valuation, potentially at the worst possible time.

This scenario plays out in UK businesses every year, and it is almost always avoidable.

What Is a Cross-Option Agreement?

A cross-option agreement (sometimes called a buy-sell agreement) is a legally binding arrangement between business co-owners. It gives the surviving owner the option to buy the deceased’s shares, and gives the deceased’s estate the option to sell those shares — at a pre-agreed price or using a pre-agreed valuation method.

The word “option” is important. Neither side is obligated to buy or sell — they have the right to do so. This distinction matters for inheritance tax purposes, which we will come to shortly.

Why Not a Binding Agreement?

You might think a binding buy-sell agreement would be simpler — one party must sell, the other must buy. The problem is that HMRC treats binding agreements differently. A binding obligation to sell at a fixed price can reduce the value of the shares for IHT purposes, potentially triggering challenges from HMRC if they believe the agreed price was below market value.

A cross-option agreement avoids this issue because neither party is bound. The shares retain their full market value for IHT purposes, which preserves eligibility for Business Property Relief — potentially saving 40 per cent in inheritance tax on the value of the business.

How It Works in Practice

1. The agreement is signed while both partners are alive and healthy
2. Life insurance policies are taken out — each partner insures the other’s life for an amount equal to (or close to) the value of their share of the business
3. One partner dies
4. The insurance pays out to the surviving partner
5. The surviving partner exercises the option to buy the deceased’s shares using the insurance proceeds
6. The deceased’s estate receives cash instead of shares in a business they cannot run
7. The surviving partner now owns 100 per cent of the business and can continue operating without interference

The beauty of this structure is that everyone gets what they need. The surviving partner keeps control of the business. The deceased’s family receives fair value in cash. And the business continues without disruption.

Life Insurance — The Funding Mechanism

Without life insurance, the surviving partner would need to find the cash to buy the shares — potentially requiring them to sell assets, take on debt, or sell parts of the business at a discount. Life insurance eliminates this problem by providing the exact funds needed at the exact moment they are needed.

There are two common structures for the insurance:

Own life policies held in trust: Each partner takes out a policy on their own life, written in trust for the other partner. When they die, the insurance proceeds are paid directly to the surviving partner outside of the estate — meaning they are not subject to inheritance tax. This is the most common and tax-efficient structure.

Life of another policies: Each partner takes out a policy on the other partner’s life. When the other partner dies, the policy pays out to the surviving partner. This is simpler to arrange but may have different tax implications depending on the structure of the business.

The insurance should be reviewed annually to ensure the cover matches the current value of the business. A policy taken out five years ago may no longer reflect what the shares are worth today.

Valuation — Agreeing the Price

One of the most important elements of a cross-option agreement is determining how the shares will be valued. Common approaches include:

• Fixed price — reviewed and updated annually by agreement between the partners
• Formula-based — for example, a multiple of average profits over the last three years
• Independent valuation — a qualified valuer appointed at the time of death

Each approach has trade-offs. A fixed price is simple but can become outdated. A formula provides objectivity but may not capture intangible value. An independent valuation is the most accurate but introduces delay and cost at a difficult time.

Many agreements use a combination: a formula-based approach with a provision for independent valuation if either party disputes the result.

What About Companies with More Than Two Owners?

Cross-option agreements work for any number of co-owners. In a three-person company, each owner would insure the others, and the agreement would specify how the deceased’s shares are allocated — typically in proportion to the surviving owners’ existing shareholdings.

The insurance arrangements become more complex with more owners, but the principle remains the same: ensure that the survivors can buy out the deceased’s share without financial strain, and that the deceased’s family receives fair value.

The Tax Position

When structured correctly:

• Life insurance premiums paid by the business are generally not tax-deductible (they are not a trading expense)
• Insurance proceeds paid to the surviving partner are not subject to income tax or capital gains tax
• If policies are written in trust, the proceeds are outside the deceased’s estate for IHT purposes
• The deceased’s shares may qualify for Business Property Relief (up to £2.5 million from April 2026), potentially reducing the IHT liability on the business interest to zero

What to Do This Week

If you co-own a business and do not have a cross-option agreement in place, you are leaving your partner’s family, your own future, and the business itself exposed to a completely preventable risk.

Start the conversation with your business partner. Speak to your solicitor about drafting the agreement. Get quotes for life insurance while you are both healthy — premiums increase with age and the cost of waiting is always higher than the cost of acting.

The businesses that survive the death of an owner are the ones that planned for it.