Why You Need Key Person Insurance for Your Small Business
Does Your Small Business Need Key Person Insurance Protection? If you have key people who are irreplaceable or whose contributions are so crucial that without them your business might fail, key person insurance can provide the money necessary to recover and rebuild in the event of their premature death.
What is Key Person Insurance?
In the world of insurance, key person insurance falls under the category of corporate-owned life insurance (COLI). COLI allows a corporation to be named as the beneficiary of a life insurance policy. The company pays the premiums and in the case of death collects the proceeds.
While this might seem odd, it ensures the company doesn’t suffer financially from the loss of key employees. It is not a way to profit from the loss of life, but instead to cover the potential losses related to not having that person’s expertise available.
Who is Considered a Key Person?
Your business can only purchase life insurance on individuals whose loss will directly impact your success. In other words, you must prove you would experience substantial financial loss if the individual were to die or suffer a disability.
However, although the person named as a key person or their own beneficiaries do not receive payment in the case of death or disability, the company requires written consent from the person named to purchase the insurance policy.
Reasons You Need Key Person Life Insurance
1. It offers financial stability
There are many people who might be a major contributor to your success. It could be the person who has become the face of your company, helping drive sales through their authority, influence and expertise. It could be your CEO, or your top salesperson.
If your company depends on any individuals whose loss could mean you are unable to operate or generate a sustainable income, you need to plan for the possibility of their sudden loss. Key person life insurance provides the financial stability you need to regain your balance, come up with a replacement plan, and be back on your feet without experiencing financial loss.
2. It instils investor confidence
Venture capitalists and investors want to see the highest ROI. Your insurance shows them you have a contingency plan should key personnel or management be lost. In most cases having the proper insurance to protect yourself and your investors against unnecessary loss is required at some point when seeking capital through investors or loans.
3. You remain operational
The shock of sudden loss can interfere with operations. Your management will scramble to find their footing, which can make meeting the needs of your customers, staff, and debt obligations become difficult.
Your insurance provides cash flow to keep you operational so you can seek help, find a suitable replacement, or come up with a new plan. You’ll maintain your customers, avoid losing more key team members who jump ship and continue to meet debt obligations to avoid insolvency.
4. Maintain cash reserves
In the case of a lost business partner where you need to buy back shares, you can quickly drain your cash reserves. This puts you at risk for bankruptcy. With key person life insurance, you have the cash available to buy those shares and cover other related expenses, so you maintain stability and control.
5. Possible asset building
Permanent policies can be treated as assets. If you choose a permanent policy, you can use the policy as an asset to help you access capital to grow your business. As well, in most cases the benefits received should someone die is usually tax-deductible. You can discuss these options with your insurance provider, as well as your corporate tax lawyer or accountant to decide if a permanent policy makes sense for your business.