Disability Much More Likely than Death

Kurt Mueller of Apollon Wealth Management (https://apollonwealthmanagement.com) recently reminded me that it was far more likely for a business owner to become disabled as die. I appreciated and was impressed by his comment as this is something that often is not fully considered as planning is done for the contingent events that may cause a change in the ownership of a business.

Our discussion led to my engaging in an Internet search. I found the Disability and Death Probability Tables for Insured Workers Born in 1999 dated August 2019 (https://www.ssa.gov/oact/NOTES/ran6/an2019-6.pdf). This article is from the Social Security Administration, Office of the Chief Actuary. Social Security provides income during retirement and also provides benefits in the event of a disability. The definition of disability used is “inability to engage in any substantial gainful activity as a result of medically determinable physical or mental impairments that can be expected to result in death or to last for a continuous period of not less than 12 months.” The tables accompanying the article estimate the probability that a worker will become disabled or die before reaching normal retirement age (“NRA” - age 67 for full benefits). For a worker born in 1999, the probability of disability before NRA is 26% for a male or female worker. For that worker, the probability of death (having never been disabled) before NRA is 9% for a male worker and 5% for a female worker. It is five times more likely for a female and three times for a male to become disabled before NRA than to die before NRA.

The common triggers (contingency events) for a buy-sell provision are death, disability, and withdrawal from the business (whether voluntary, involuntary, or by operation of law). While it is difficult to say what the probabilities are for withdrawal, we know from experience and a variety of sources that business structures change frequently. But between death and disability, it is often death that gets the attention; perhaps that is because life insurance is a typical funding method. Certainly, life insurance can contain an investment component that can provide for funding in non-death events, but specific attention must be paid to disability situations.

With disability, the principal factor is whether the owner is a key productive element of the business (an owner-manager). It is my constant counsel that owner-managers strive to become owners and not be a productive element of the business because that will increase the value of the business. A third-party buyer (the type of buyer that will pay the highest price for a business) will not pay as much if the owner being bought out is an integral part of the business. If the disabled owner is not a manager, issues involved with employment compensation are not involved.

With an owner-manager’s disability, two things happen: productivity is negatively affected and the owner will need continuing compensation support. Disability insurance may help the owner’s requirement for compensation, but what of the loss of productivity to the business? Here, short of a reserve fund to provide for hiring a replacement, the answer lies in management planning establishing redundancy of tasks and efficient succession policies.

Most events causing a change in the ownership of a business do not involve the death of an owner. An owner's disability is far more likely than the owner's death. Plans for funding a buy-sell agreement must take that fact into careful consideration. For more on disability, please see https://btcllc.net/frequently-asked-questions/100-what-happens-to-my-business-if-i-become-disabled