On June 6, 2024, the Supreme Court decided Connelly v. United States unanimously, in an opinion by Justice Thomas. It resolved a question that had sat under thousands of closely held business succession plans, and it resolved it against the estate.
If your business is owned by more than one person and the buy-sell agreement is funded with company-owned life insurance, this decision changed what your shares are worth for estate tax purposes.
What happened
Michael and Thomas Connelly were the only shareholders in Crown C Supply, a building supply company in St. Louis. They had a buy-sell agreement: on the death of either brother, the survivor could buy the shares, and if he declined, the corporation was obliged to redeem them.
To fund it, Crown bought $3.5 million of life insurance on each brother. Michael died in 2013. Thomas declined to buy the shares personally, so the corporation redeemed them, paying Michael’s estate $3 million from the insurance proceeds.
The estate valued Michael’s shares at $3 million and filed on that basis. The reasoning was straightforward and was what a great many advisers believed: the insurance money came in as an asset, but the obligation to pay it straight out to the estate was a matching liability, so the two canceled and the company’s value was unchanged.
The IRS disagreed. It valued Crown at $6.86 million, counting the $3 million of life insurance as a corporate asset without any offsetting liability, and assessed a deficiency of $889,914.
What the Court held
The Court sided with the government, and the reasoning is worth reading rather than summarizing.
“An obligation to redeem shares at fair market value does not offset the value of life-insurance proceeds set aside for the redemption because a share redemption at fair market value does not affect any shareholder’s economic interest.”
And, applying the willing-buyer standard: “No willing buyer purchasing Michael’s shares would have treated Crown’s obligation to redeem Michael’s shares at fair market value as a factor that reduced the value of those shares.”
The logic holds up on inspection. Before the redemption, Crown was worth $6.86 million and Michael owned roughly 77% of it. The corporation pays out $3 million and Michael’s estate receives $3 million. The estate is not poorer for the redemption, and the surviving shareholder now owns all of a smaller company. Nothing about the exchange reduces what Michael’s shares were worth at the moment he died.
What this means in practice
A redemption-funded buy-sell now produces a larger taxable estate than most owners were told it would.
The number that matters is the company value including the insurance proceeds. If the corporation holds a $3 million policy, the corporation is worth $3 million more at the moment of death, and the deceased owner’s share of that increase is in their estate.
That is not automatically a disaster. Under Revenue Procedure 2025-32, estates of decedents dying in 2026 have a basic exclusion amount of $15,000,000, and the One, Big, Beautiful Bill made the higher exemption permanent. A great many closely held businesses sit comfortably below the threshold even with the insurance counted.
It is a serious problem for two groups. Businesses whose value plus insurance approaches $15 million, and businesses in the twelve states and the District of Columbia that levy their own estate tax at thresholds far below the federal one. For those owners the Connelly arithmetic can create a tax liability that the plan itself generated.
The cross-purchase alternative
The structure the Court’s reasoning does not reach is the cross-purchase. Instead of the company owning policies on the owners, each owner owns a policy on each of the others.
When one dies, the survivors receive the proceeds personally and use them to buy the shares from the estate. The corporation never holds the insurance, so the corporation’s value never includes it, and the Connelly problem does not arise. The surviving owners also get a basis step-up in the shares they buy, which a redemption does not give them.
The drawback is arithmetic. With two owners you need two policies. With four you need twelve, because each owner insures each of the others. Premiums are paid with personal after-tax money, and if the owners are different ages the amounts are uneven and somebody feels short-changed.
Two structures exist to manage that. An insurance LLC holds the policies for the owners, cutting the policy count while preserving cross-purchase treatment. A trusteed cross-purchase does something similar through a trust. Both need careful drafting, and both need attention to the transfer-for-value rule, because a policy that changes hands for consideration loses part of its income tax exclusion under Internal Revenue Code section 101.
What to check if you own part of a business
- Read the agreement. Is it a redemption, a cross-purchase, or a hybrid where the company steps in if the owners decline? Many owners do not know which one they signed.
- Find out who owns the policies. If the company owns them, Connelly applies.
- Look at the valuation clause. Many agreements set price by a formula or a fixed figure that has not been revisited in years. A price that is not defensible as fair market value creates a different problem.
- Check whether the coverage still matches the business. A policy sized to a company that was worth $2 million ten years ago underfunds a company worth $6 million now.
- Check the dates. Agreements written before June 2024 were drafted against the assumption the Court rejected.
- Add the state. A federal exclusion of $15,000,000 is irrelevant if your state starts taxing at $2 million.
Where we fit
Apex writes the insurance. The agreement itself is drafted by a business attorney, and the valuation should come from somebody qualified to produce one that will stand up. An insurance agency that offers to handle all three is not the right agency.
What we do is cost the coverage across more than 20 carriers, structure ownership so it matches whatever the attorney has drafted, and make sure the face amounts still fit the business rather than the business it used to be. If your agreement predates June 2024, that is a conversation worth having this year. Talk to a member of our team.
Nothing here is tax or legal advice. Talk to your own attorney and tax adviser about your situation. No policy is bound until a carrier issues it in writing.
