If you’re like many successful business owners, you’ve spent the majority of your life building your business from the ground up. The last thing you want to see happen is for it to go under or fail due to the loss of a single person — and yet, for many businesses that scenario isn’t really out of the question.
Let’s face it: many organizations become successful due largely to the presence and actions of one person — or a small handful of people. Usually, that person is the founder or owner of the business, but not always. Sometimes we hire the exact right person at the exact right time, and this lucky hire helps to propel a business to new heights. Regardless of the reason, when you have someone as crucial as this it makes it necessary to consider what would happen to your company if something unfortunate were to happen to this person. This is where the idea of Key Man (or Key Person) life insurance comes in.
What is Key Person Life Insurance?
Just like the name implies, Key Person life insurance is an insurance policy that a company purchases on a key employee’s life. This person could be the owner, CEO, president or some other key executive or employee. It doesn’t matter who it is so much as what that person means to the company: if this person were to pass away, the very life of the company would be in jeopardy.
When a Key Person policy is purchased, the intent behind it is to basically act as a cushion — a way for a company to stay afloat while it recovers from the loss of this key employee or executive considers its options and tries to figure out how to replace that person. The payout from the policy basically gives the company a chance to get back on its feet.
In severe circumstances, such as a business that simply cannot survive without its key person, Key Person insurance lets the company pay off its debts, offer severance packages and close down the company in a timely fashion without having to declare bankruptcy.
How Does Key Person Insurance Work?
Key Person insurance works like any regular insurance policy, but with a few exceptions. First, even though the insurance is purchased to cover the life of a specific person, that person (or that person’s family) is not the beneficiary. Rather, the company would own the policy and receive the money from the insurance policy.
Second, Key Person insurance doesn’t necessarily only protect a company against a person’s death. Even though it is often referred to as Key Person life insurance, it is not life insurance in the same sense — it does not require a death. Key Person Insurance can also protect a company when that person is injured, lost or in some other way unable to do his or her job.
What Sorts of Protection Does Key Person Insurance Offer?
As I said above, Key Person insurance doesn’t just offer payout in cases of death. There are other situations where a business can benefit from the payout of a Key Person policy. These include:
1. Temporary Loss
Imagine a scenario where your key person isn’t dead but is out of work for an extended period of time. This could be for many reasons, including injury, extended family leave or some other personal concern. For your company and its future, though, it all boils down to the same question: how will you survive while that person is gone? Key Person Insurance can help you by providing the funds needed to hire and train temporary personnel until your person comes back. And, if that temporary situation turns out to be more permanent, Key Person insurance can help you find that permanent replacement you’ll need to continue.
2) Resource Protection
If your Key Person was the sort that brings in a lot of revenue – a salesperson, perhaps – or was involved with projects that are crucial to your future, then the loss of that person can be devastating to your bottom line. These sorts of personnel can be even harder to replace because they are involved with so many aspects of the company. It’s more than just losing an important worker; you’re missing out on experience and knowledge that can’t be replaced easily. In this case, Key Person insurance helps to protect your bottom line, offsetting additional lost income that can come from losing sales, dropping clients or having to delay important projects.
3) Shareholder Protection
Often, a Key Person is a part-owner of the company, withholdings of stock and other interests. When that person passes, a natural question to ask at some point is what happens to the (now) unowned stake of the company? It’s important to consider what to do in this situation to protect your company in the future. Key Person Insurance can help in this regard by enabling shareholdings and other interests (such as partnerships) to be bought by existing partners, shareholders or other concerned parties.
4) Loan Protection
One final area of protection that Key Person insurance can help is with loan guarantees. This comes into play when your Key Person is the one who deals with banks and other lenders. In many cases, the loan is given based on the strength of the individual as much as it is the company. When this Key Person is no longer a part of the company, this can throw confidence in your business in jeopardy. Sometimes, the lending institution might decide to back out of the deal, since the future of the business is now unknown. Key Person insurance can be arranged to cover up to the full amount of that loan guarantee.
How Much Key Person Insurance Is Needed?
This is not really an easy question to answer here, because a lot of it depends on your own specific situation. The good news, though, is that it is a question you can get an answer to, once you crunch some numbers. To do so, follow this simple, common-sense guideline:
1) Determine your Key Person or persons.
This is really the first and most important part. Who can your company not live without – at least, not without suffering severe financial blows? Usually, there will be one. Don’t be ashamed to admit it might be you!
2) Think about long-term coverage.
How long will this Key Person be working? If, for example, your person is 55, and is starting to talk about retirement in the next few years, then you only need to carry insurance for a certain amount of time. Because life insurance over 50 is often more affordable, policies like this can be well within your budget.
3) Decide how much money it would take to keep the company afloat while that Key Person is replaced.
Assume it takes at least four to six months to find and train a suitable replacement (not an unreasonable amount of time). How much money does the business need to operate during that time? In addition, how much will it cost to actually find and train the replacement? Add those sums up. Now, add on another 10% (because we all know nothing is ever as cheap as we hope it will be). That’s your minimum amount.
4) Now that you have a starting point, find the policy that works for you!
This last bit is where I come into play. Through a handful of conversations, we can go through your Key Person needs to determine just what sort of insurance you need, and for how long. Once we have an idea of what your needs are, and what you would require to keep your business afloat during any difficult transitional time, we can build a Key Person plan that’s perfect for you!