Rhode Island Pre-Licensing Life & Health Insurance Practice Test

Insuring the lives of major shareholders is a common strategy for small businesses, particularly when it comes to ensuring financial stability and continuity of ownership in the event of an untimely death. A buy-sell agreement is a legally binding arrangement that stipulates how a shareholder’s share of a company will be transferred in the event of their death, disability, or departure.

When businesses take out life insurance policies on their major shareholders, the proceeds from the policy can be used to purchase the deceased shareholder's shares from their estate, thereby facilitating a smooth transition of ownership. This funding mechanism allows the remaining shareholders to maintain control of the business without financial strain, as they can use the insurance payout to buy out the deceased's shares instead of having to come up with the funds from operational revenues or other means.

This approach provides financial security and minimizes disruptions in business operations, making it an essential practice for small businesses with limited resources for unexpected events. In contrast, other options like life annuity coverage, funding for employee retirement, and shareholder dividends do not directly relate to the purpose and function of a buy-sell agreement in the context of insuring the lives of major shareholders.