When most people think of life insurance they imagine someone who wants to provide for a loved one in the event of their death. At it’s most basic, life insurance is designed to pay out a death benefit to the insured person’s beneficiaries. That’s often a spouse, parent(s), children, a charity, or anyone the insured wishes to leave money to. What’s not so commonly known is that life insurance is an effective & inexpensive way to protect a company. In this article, I’ll discuss how to protect your business with life insurance.
Think of the key members within an organization. A company’s founder(s), the CEO, the president, vice-president, a top-ranking engineer, you get the idea. Every company has a few key players whose sudden loss would significantly impact everyday operations. Small and medium-sized companies can be particularly devastated by the loss of a founder, owner or top executive. Properly structured life insurance can offer a level of financial protection to the company in the event of such a loss.
Life insurance uses for business protection
- Key Person insurance
- Buy-Sell agreements
- Living benefits
Key Person Insurance
Key person insurance (aka key man insurance) is insurance on the life of a critical member of the company. The company owns the policy, pays the premiums and is the beneficiary of the death benefit. It’s up to the company to determine which individuals are considered key contributors and should be covered by key person insurance. Term life insurance is the most commonly used type of coverage for its simplicity and low cost. Disability insurance is sometimes also part of a key person strategy.
In the event of the insured’s death, the company can use the funds to continue operations until a replacement is found. Paying obligations to creditors, suppliers, and employees can become a strain if profitability diminishes after the loss. Estimating these costs over 12-18 months is typical when determining how much insurance is adequate.
A buy-sell agreement (aka buyout agreement) is a legally binding contract between co-owners or business partners. It spells out what happens to each partners’ shares in the business if that person dies or otherwise leaves the company. In the case of death, life insurance is typically used to allow the other co-owners/partners to purchase the shares or for the company itself to do so. The agreement usually states that the deceased’s estate must sell his/her shares to the remaining co-owner(s) and/or the business entity.
In a cross-purchase agreement, each co-owner is the owner and beneficiary of a life insurance policy on each of the other co-owners’ lives.
In a redemption agreement, the company itself owns the policies and is beneficiary.
It’s not uncommon for a buy-sell agreement to contain a blend of cross-purchase and redemption language.
Buy-sell agreements are most commonly used by sole proprietorships, partnerships, and closed corporations. Language preventing the sale of shares to an outside investor is typically included and term life is again the most commonly used form of life insurance.
Focus on startups
Most startups only have a handful of key players during their early years in business. This makes them especially vulnerable to the loss of a founder or executive. It becomes even more of a risk in an organization if most of the knowledge and innovation live in the founder’s brain. Life insurance proceeds won’t help with knowledge transfer, of course. But it can be useful to keep the lights on while executing a contingency plan or, in the absence of a plan, deciding on a course of action after the loss of a key player.
The good news is putting key person and/or buy-sell coverage in place won’t break the bank. On average, you can cover an individual for less than the cost of a typical social media ad campaign.
Living benefits are relatively recent additions in some life insurance policies. They allow for the owner of a policy to request a portion of the death benefit while still living if diagnosed with specific medical conditions. Most policies that include living benefits will cover terminal, critical, and chronic illnesses. Obviously the insured individual must not have the condition at the time of applying for life insurance.
Living benefits can help relieve the financial strain on the company if an insured key player is diagnosed with a qualifying condition and can no longer work. If this option is exercised, the death benefit is reduced by the amount paid out under the living benefits feature of the policy. This is not the same as disability insurance.
To discuss how to protect your business with life insurance, given your unique circumstances, feel free to reach out. Consultations and quotes are always free.
You can either start the process by running your own quotes on any page of this site, or you can call, text or email me directly.
-Danny Gallant, Life Insurance Broker
firstname.lastname@example.org | 512-922-1273