What Is Key Person Life Insurance?

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Written By LoydMartin

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Key person insurance refers to life and disability coverage for key employees such as owners, founders, or key executives – the importance of business life cover for their business’s survival. Contrary to personal life and disability insurance, businesses purchase key person policies as an investment with their employees as beneficiaries, paying premiums and being named beneficiaries if an employee dies while covered under this plan. Should such an event occur, then their estate would receive payout from this form of coverage. Insurance proceeds may be utilized in various ways, including paying off debts, resetting daily operating costs, supplementing losses until replacement employees can be hired, or in extreme cases even dispersing cash to investors or paying an employee severance and winding down operations in an orderly way.

Why is key person insurance important?

An absence or death due to illness of a key employee in any business can leave significant gaps in leadership positions, experience or knowledge. Without their presence the business could suffer the loss of trust from stakeholders and lower profits while creating additional burdens on other employees. Without key employee insurance this business might struggle just to survive day to day without receiving cash infusion from insurance policies that can provide compensation funds that can replace revenue lost, pay bills off faster or assist with finding and hiring their replacement employee(s).

What does key person insurance cover?

Your employer may purchase key personnel insurance that covers key staff. This may include coverage that provides:

  • the death of the individual
  • terminal illness
  • optional critical illness

How much key person insurance do I need?

Considering the potential impact of losing someone who is responsible and how this could affect profits and revenue at your company is of the utmost importance, along with what would it cost to replace them. Companies typically utilize three criteria when determining how much insurance coverage is necessary:

Cost of replacement

Some job positions can be more challenging to fill than others, which may necessitate hiring professional recruitment companies and incurring relocation expenses in order to locate an ideal candidate. Determine how much this will cost your company before setting appropriate coverage policies.

Formula based on wages

Another popular life and critical illness insurance formula involves using up to ten times an individual’s income as the base value, with critical illness cover often used at five times or lower (which allows more flexible pricing options).

Impact on gross or net profits

At another method for evaluating impact is calculating how a key employee contributes to net or gross profits and then how long it takes for you to regain their value – for instance a major salesperson could account for 25% of overall sales revenue; so when an employee leaves you need to account for both immediate impact and plan how your business will recover in due time from such loss.

Who is the owner, and who is the beneficiary of a key person policy?

Under typical life insurance plans, those insured typically own their policy outright; with key person insurance however, the company itself is the beneficiary and should usually pay all premiums (not their employee), with proceeds (death benefit) usually going back into the business when an insured passes or dies; in case the policy is used as collateral against a loan however this could change to whomever is lending the money as well.

What is the primary purpose of key employee life insurance?

Key person insurance is a form of business insurance designed to help companies recover from financial losses due to the death of an owner, partner or key employee. Key person policies provide security to financials of businesses by giving them time and opportunity to find suitable replacements and train new ones; it can also shield heirs from paying company obligations when an owner passes away prematurely. Partnerships often use life insurance for employees as protection in case one dies prematurely from illness.

Is key person insurance tax-deductible in the UK?

Premiums associated with insurance purchased to protect nonshareholding employees of a corporation typically qualify as tax deductible business expenses and qualify for tax relief, since any funds you receive through such policies will solely benefit the business. But, HMRC may refuse any tax relief on premiums for policies covering key individuals with ownership stakes in your firm.

Common Reasons for Purchasing Key Person Life Insurance

Keyman life insurance is an effective and straightforward way to secure the long-term viability of your business. Easy to acquire, this policy offers security while giving your venture more credibility with investors and lenders. Key employee insurance may even be used for finance executive compensation plans as an element of deferred compensation plans or executive benefits packages.

Key person life insurance policies are used for various reasons, with some of the more popular uses being:

  • Finance the recruitment and training for a replacement key employee by purchasing an insurance policy tailored specifically for key personnel. Most companies employ at least one employee with unique skills and talents, making replacement nearly impossible without taking considerable time and resources to find. A crucial man life insurance policy can make this difficult process simpler by helping to speed up recruitment of suitable candidates more quickly.
  • Cover expenses until the company has stabilized. What happens if an owner unexpectedly passes away suddenly and leaves behind unfinished business? Life insurance for key employees provides immediate liquidity that meets cash needs to allow operations to continue as normal.
  • Cash is essential when seeking loans to finance expansion and growth of your business. Banks and other lenders usually require collateral as security against loans made to small-sized enterprises, meaning any employee loss could pose an immediate threat to repayment; hence, lenders commonly request insurance on key personnel as an aid towards strengthening credit scores of these organizations.
  • Life insurance policies serve a major function for employees: buying stock from the estate of deceased owners. Imagine this: two equal owners owning a company valued at $4 Million with one owner being deceased. In such an instance, when one dies it creates two major issues for both survivors: (1) How will their shares get split among family members without selling out of company? And 2) Can the surviving partner pay the deceased owner’s family off so as to remain out of competition altogether without disrupting company. A purchase agreement funded through life insurance helps resolve these potential “liquidity” issues.
  • Key men life insurance proceeds can help meet debt obligations quickly. Life insurance for key men can be used to settle large loans taken out for business acquisition or mortgaged facilities associated with it; two dentists purchasing their practice for $750,000 could use key man insurance coverage of $1,950,000 on each of them in case either one dies unexpectedly, leaving an obligation unfulfilled in case one suddenly passes away.
  • Provide salary continuation arrangements to the spouse of a deceased employee. A salary continuation program is an arrangement between an employer and employee in which wages of disabled or deceased employees will continue, usually proportional to salary and length of service. Life insurance for key employees could help businesses fulfill this agreement if one dies before fulfilling it through pre-arranged contracts for continuation of salary continuation arrangements.