Buy-Sell Agreement FAQ for Multi-Member Arizona LLCs

If you own a piece of an Arizona limited liability company with one or more other people, ask yourself a simple question: if your co-member died tonight, who would you be in business with tomorrow morning? The answer, unless your LLC has a written buy-out plan, is whoever that member named in a will or trust, or whoever Arizona's intestacy laws pick. You do not get a vote, and neither does the member who died.

 

This article explains the machinery of a member buy-out: what makes a buy-out happen, who is allowed to buy, how the price gets set, how the buyer pays, and what the members actually sign at closing. The plan lives in the LLC's Operating Agreement or in a separate Buy Sell Agreement that all of the members sign. For the underlying agreement itself, see our detailed discussion of the Arizona LLC Buy Sell Agreement.

 

What Happens If Your LLC Has No Buy-Out Provision

Arizona law does not force anybody to buy a departing member's interest. Three statutes in the Arizona Limited Liability Company Act control the outcome, and none of them produces the result most members assume.

 

Under A.R.S. §29-3602, a member is dissociated from the LLC on the occurrence of certain events, including death. People hear the word "dissociated" and assume the interest disappears or reverts to the company. It does not.

 

Under A.R.S. §29-3603, the dissociated member loses the right to participate in management, but the economic interest survives as a transferable interest. It is property. It passes to the heirs, to the bankruptcy trustee, to the ex-spouse, or to whoever else the law hands it to. Nobody is obligated to buy it, and nobody is obligated to sell it.

 

Under A.R.S. §29-3502, the person who ends up holding that transferable interest is generally entitled only to distributions. No management rights, no vote, no access to the books in the way a member has. So the heirs get a permanent claim on a share of the profits of a company they cannot steer, and the surviving members get a permanent silent partner they did not choose.

 

Without a written agreement that contains an exit plan, the members of an Arizona LLC are stuck with each other in sickness and in health and even after death.

That stalemate is the reason buy-out provisions exist. A.R.S. §29-3105 lets the members override most of the statutory defaults in their Operating Agreement. The members write their own exit rules, and those rules — not the statute — govern.

 

The Four Questions Every Buy-Out Plan Must Answer

Strip away the legalese and a buy-out provision is an answer to four questions. If your Operating Agreement or Buy Sell Agreement answers all four clearly, you have a plan. If it answers three, you have a lawsuit waiting for a trigger.

 

1. When does a buy-out happen? Which events obligate or entitle somebody to buy.
2. Who buys? The LLC itself, the other members personally, or some combination.
3. What is the price? A stated value, a formula, or an appraisal — decided before anyone knows which member will be the seller.
4. How is the price paid? Cash at closing, insurance proceeds, a promissory note, or a combination, and what secures the buyer's promise to pay.

The 17 Events That Can Trigger a Buy-Out

A well-drafted agreement lists the events that start the buy-out process. Members are free to include all of them, some of them, or add their own. These are the 17 triggering events we most often see:

 

1. Any event the members choose. The members can add any trigger that fits their business.
2. Breach of the Operating Agreement. A member defaults on a duty the agreement imposes.
3. Failure to make a required capital contribution. The member does not fund a capital call.
4. Death of a member. The most common trigger and the one most agreements handle first.
5. Conviction of a felony. Especially important where the company holds a license or a government contract.
6. Divorce of a member. Prevents an ex-spouse from becoming an involuntary business partner.
7. Bankruptcy of a member. Keeps the interest from landing in the hands of a trustee or creditor.
8. An attempted transfer that the agreement does not authorize. A member tries to sell, gift or pledge the interest to an outsider.
9. Termination of a member's employment with the company. Common where ownership is tied to working in the business.
10. Loss of a professional license. Critical for a professional limited liability company (PLLC).
11. A sale by the majority member — drag-along rights. The majority can require the minority to sell on the same terms.
12. A minority member's right to join a sale — tag-along rights. The minority can require the buyer to take its interest too.
13. Disability of a member. Usually defined by a stated period of inability to work.
14. Retirement of a member. A planned, orderly exit on terms agreed years in advance.
15. Incompetency of a member. Prevents a guardian or conservator from running the member's stake.
16. Filing false documents with the Arizona Corporation Commission. For example, a member who files a statement of change without authority.
17. Unauthorized changes to the company's bank accounts. A frequent early warning sign of a member helping himself to company money.

Not every trigger has to produce the same result. Sophisticated agreements use a lower price for a "bad" trigger — fraud, felony conviction, an unauthorized transfer — than for death or retirement. The members decide that in advance, while everybody is still friendly.

Who Buys: the LLC, the Members, or Both

There are three standard structures. The choice drives who signs the checks, who owns the insurance policies, and what the buyers' tax basis looks like afterward.

 

1. Entity Redemption

The LLC buys the departing member's interest. The company owns and pays for the life insurance on each member, collects the proceeds, and uses them to pay the seller. The interest is retired, and the remaining members' percentages increase automatically. Administration is simple — one policy per member — which is why redemption is the usual choice when there are several members.

 

2. Cross-Purchase

The remaining members buy the interest personally, usually in proportion to their existing ownership. Each member owns a policy on each of the other members, which means a four-member LLC needs twelve policies. The offsetting benefit is meaningful: the buying members get a cost basis in what they buy equal to what they paid, which reduces their taxable gain if they later sell the company.

 

3. Hybrid

The agreement gives the LLC the first option to buy and gives the remaining members the right to buy whatever the LLC does not. This is the most flexible structure because the decision of who buys can be made at the time of the buy-out, when the members know the company's cash position and their own tax situation.

 

	Entity Redemption	Cross-Purchase	Hybrid
Who buys	The LLC	The other members	LLC first, then members
Policies needed for 4 members	4	12	Varies by design
Basis step-up for buyers	No direct increase	Yes	Depends on who buys
Administrative burden	Low	High	Moderate

Mandatory Buy-Outs, Optional Buy-Outs and Put Rights

Every trigger in the agreement should say plainly whether the purchase is required or merely permitted. The three settings:

 

Mandatory buy-out

The buyer must buy and the seller must sell. Neither side can back out. This is what a family needs after a member dies — the surviving spouse gets money instead of an argument.

Optional buy-out

The buyer may buy but is not required to. This protects the company's cash when the trigger is something the remaining members can live with. The risk is that the departing member or the heirs are left holding an interest nobody wants.

Put right

The departing member, or the estate, can force the LLC or the other members to buy. It is the mirror image of an option, and it is what a minority member should insist on before signing.

Members frequently want a mandatory buy-out on death and disability and an option on everything else. That is a reasonable default, but it should be a decision, not an accident of drafting.

The Buy-Out Step by Step

Here is how a buy-out actually runs when the agreement is well drafted. The specific deadlines below are the ones we commonly use; yours should be whatever the members negotiate, so long as every step has a deadline attached to it.

 

1The triggering event occurs and somebody gives notice

The agreement should require the member, the member's representative, or any member who learns of the event to give written notice to the company and to every member. Death and incompetency are obvious; divorce filings, bankruptcy petitions and unauthorized transfers often are not, so the agreement should also say that the buy-out period starts when the other members learn of the event.

 

2The LLC exercises or waives its option

In a redemption or hybrid structure, the LLC gets the first shot, typically within a stated window after the notice. The remaining members vote, and the company delivers a written election to buy all, some, or none of the interest.

 

3The remaining members buy whatever is left

If the LLC declines or buys only part, the agreement passes the remainder to the other members, usually pro rata in proportion to their ownership, with a second round offered to the members who want more than their share. This step is what keeps an interest from being orphaned when the company cannot afford the whole purchase.

 

4The purchase price is determined

The pricing method is fixed in the agreement, so this step is arithmetic or an appraisal engagement, not a negotiation. See the next section.

 

5Closing occurs on a deadline the agreement sets

A typical provision requires closing within 60 days after the buyer becomes obligated to buy. Without a hard deadline, a reluctant buyer can strand a widow for years.

 

6The buyer pays the down payment and signs a note for the balance

A common structure: at closing the buyer pays the greater of 20% of the purchase price or the life insurance proceeds received on a deceased member, not to exceed the purchase price. The balance is paid under a promissory note in equal monthly installments of principal and interest over five years, with interest at the Bank of America prime rate.

 

7The note gets guaranteed and secured

An unsecured promise from a company that just lost a key person is worth very little. The agreement should require the continuing members and their spouses to guaranty payment of the note, with those guaranties secured by pledges of the continuing members' membership interests. If the buyers stop paying, the seller can foreclose on the interests that were pledged.

 

8The paperwork is signed and the records are updated

At closing the parties sign an assignment of the membership interest, the promissory note, the guaranties and pledge agreements, the seller's release, and a consent of the members recording the transfer. The company then updates its membership ledger, cancels and reissues membership certificates, reflects the change on the next tax return, and — if the change affects the LLC's publicly filed information — makes the appropriate filing with the Arizona Corporation Commission.

 

How the Purchase Price Is Determined

The price method must be chosen before anybody knows who the seller will be. That is the entire trick: when you do not know whether you will be the buyer or the seller, you pick a method that is fair in both directions.

 

Stated value

The members agree on the value of the company and write the number into the agreement, then update it annually. It is the simplest method and the most dangerous, because the number is almost never updated. A value the members set in 2019 will look absurd to a widow in 2026.

 

Formula

The agreement sets a formula, such as average net profits for the last three fiscal years multiplied by three, or a multiple of revenue, or book value with stated adjustments. A formula is cheap and fast, and it always updates itself. The weakness is that a formula built for the company as it exists today can produce a wildly wrong number after the business changes.

 

Appraisal at the time of the buy-out

The buyer and seller each select a qualified appraiser, and if the two values are within a stated percentage of each other the price is the average. If they are further apart, the two appraisers select a third whose value controls or is averaged in. It costs money and takes time, but it produces a defensible number based on the company as it actually is on the day of the sale. Over 95% of the Buy Sell Agreements I have prepared use an appraisal method.

 

Single standing appraiser

The members hire one appraisal firm when the agreement is signed and have that firm update the value periodically. This is a middle path: real valuation work, but without the delay of starting from scratch after a death.

 

Whatever method you choose, the agreement should also address discounts. A minority interest in a closely held LLC is worth less than its arithmetic share of the whole because it cannot control the company and cannot readily be sold. Say in the agreement whether minority and marketability discounts apply. If you do not, you are guaranteeing a fight at exactly the wrong moment.

How the Buyer Pays: Insurance, Notes and Reserves

A buy-out obligation the buyer cannot fund is a promise on paper. There are four ways to put money behind it, and most LLCs use more than one.

 

Life insurance

This is the most efficient way to fund a buy-out on death. For a few thousand dollars a year, the company or the members create the exact sum needed on the exact day it is needed. One caution that gets missed constantly: when a business owns life insurance on an employee or member, the proceeds are tax-free only if the requirements of IRC §101(j) are satisfied, which includes giving the insured written notice and obtaining written consent before the policy is issued. Miss that step and a portion of the death benefit becomes taxable income.

 

Disability buy-out insurance

Disability is statistically more likely than death during a member's working years, and it is harder on the company, because the disabled member keeps drawing from a business he can no longer help run. Disability buy-out policies are written specifically to fund a purchase after a defined period of total disability.

 

Installment payments

A down payment plus a promissory note paid over several years is the standard fallback for every trigger insurance does not cover — retirement, divorce, bankruptcy, termination of employment, a breach. The note lets the buyer pay out of the company's future earnings instead of its current bank balance. Pair it with the guaranties and pledges described above.

 

Company reserves

A profitable LLC can build and designate a cash reserve for buy-outs. It is the cleanest source of funds and the hardest to maintain, because idle cash is always tempting.

Tax Consequences the Members Should Understand

Buy-outs have tax results that depend on the structure you chose years earlier, which is why the structure decision belongs in front of a lawyer and an accountant rather than in a template.

 

• Cross-purchase. The buying members get a cost basis in the purchased interest equal to what they paid. That reduces their gain later.
• Redemption. The remaining members' percentages go up without a direct basis increase, so a later sale of the company can produce a larger taxable gain than the members expect.
• The §754 election. An LLC taxed as a partnership can make an election under IRC §754 that adjusts the basis of the company's assets after a transfer of an interest, including a transfer at death. In the right circumstances it delivers real depreciation and gain-reduction benefits to the continuing members. Talk to your CPA about it before the closing, not after.
• Payments to a retiring or deceased member. How installment payments are characterized affects the timing and character of income to the seller and the deductibility to the buyer. Get the characterization stated in the agreement.

Seven Mistakes That Wreck a Buy-Out

1. No agreement at all. The default statutes described above take over, and nobody is required to buy anything.
2. A stated value nobody updated. The members set a number once and never touched it again.
3. Triggers with no deadlines. An option with no expiration date is an invitation to delay until the seller gives up.
4. No funding. A mandatory buy-out with no insurance and no note terms is a promise the company cannot keep.
5. An unsecured note. The seller hands over the interest and then has nothing but a signature to enforce.
6. Spouses who never signed. In a community property state this leaves half of every interest outside the agreement.
7. Insurance owned the wrong way. Policies that do not match the purchase structure, or that ignore the IRC §101(j) notice and consent requirement.

Frequently Asked Questions

What happens to my share of the LLC if I die without a Buy Sell Agreement?

 

Your interest passes under your will, your trust, or Arizona's intestacy laws. Your heirs typically receive only the right to distributions, with no management rights and no way to force a sale, and your surviving partners are stuck with them.

 

Can the remaining members simply vote to remove a member and keep the company?

 

Removing a member from management is not the same thing as buying the member out. Under A.R.S. §29-3603 a dissociated member keeps the economic interest. The only reliable way to get the interest back is a contract the members signed in advance.

 

Is the buy-out provision in the Operating Agreement or in a separate document?

 

Either works. It can be a section of the Operating Agreement or a stand-alone Buy Sell Agreement signed by the LLC, all of the members and their spouses. What matters is that it is in writing, signed by everybody, and consistent with the rest of the Operating Agreement.

 

What if the LLC does not have the money to buy the interest?

 

That is what the payment terms are for. A down payment plus a five-year secured promissory note lets the company pay out of future earnings. For death and disability, insurance is what converts a buy-out obligation into cash on the day it is needed.

 

Do we need to appraise the company every year?

 

No. Most agreements call for an appraisal at the time of the buy-out, so there is nothing to do in the meantime. If your agreement uses a stated value instead, then yes, you should revisit the number every year and sign a written update.

 

Does a buy-out provision protect against a member's divorce or bankruptcy?

 

It can, if you list those events as triggers and if the member's spouse signed the agreement. That is how you avoid having an ex-spouse or a bankruptcy trustee holding a piece of your company.

 

When should we sign a Buy Sell Agreement?

 

Now, ideally when the LLC is formed. If the members do not sign one at formation, it is very unlikely they ever will.

 

Does every multi-member LLC need one?

 

Every multi-member Arizona LLC should adopt one. The only common exception is a multi-member LLC owned only by a husband and wife.

Hire Us to Prepare Your Buy Sell Agreement

We prepare custom Arizona LLC Buy Sell Agreements for two flat fees, each of which includes a one hour consultation with the attorney:

 

Situation	Flat Fee
Newly formed Arizona LLC, or an LLC for which we are also preparing the Operating Agreement	$1,294
Existing Arizona LLC	$1,994

Arizona LLC attorneys Richard Keyt and his son, attorney and former CPA Richard C. Keyt, have formed 10,000+ Arizona LLCs. Richard has practiced Arizona law since 1979. For more on the agreement itself, read our article on the Arizona LLC Buy Sell Agreement, and browse our other LLC resources in the Arizona LLC Center.

 

See a detailed description of the 8 Bronze LLC services, 12 Silver LLC services & 20 Gold LLC services we provide when we are hired to form an LLC or PLLC.

 

To hire us to form an LLC submit our online questionnaire at keytlaw.com/llcq. To discuss a Buy Sell Agreement for an LLC you already own, call Richard Keyt at 480-664-7478 or email him at rk@keytlaw.com.

 

This article is general information about Arizona law and is not legal advice for your situation. Buy-out terms, valuation methods and tax consequences vary with the facts. Consult an Arizona attorney and your tax advisor before adopting or relying on a buy-out provision. © 2026 KEYTLaw, LLC. All rights reserved.