Introduction
In the world of business, few things are as crucial as valuable personnel. These are the individuals who keep operations running smoothly, maintain important relationships with clients and vendors, and possess critical knowledge or skills necessary for the success of the enterprise. Losing a key employee can be devastating, both financially and operationally. That's where key person life insurance comes in. In this blog post, we'll explore what key person life insurance is, why it's important, and how it works.
What is Key Person Life Insurance?
Key person life insurance is a type of life insurance policy that a business takes out on a key employee or employees. The business is the owner and beneficiary of the policy, meaning that in the event of the death of the key employee, the business receives the death benefit payout.
Why is Key Person Life Insurance important?
There are several reasons why key person life insurance is important.
First, losing a key employee can be financially catastrophic for a business. The loss of a key employee can lead to lost revenue, decreased productivity, and increased expenses associated with recruiting and training a replacement. Additionally, the death of a key employee can cause disruption to the business's relationships with clients and vendors, leading to further financial losses.
Second, key person life insurance can provide peace of mind to business owners and stakeholders. Knowing that the business is protected in the event of the death of a key employee can help ensure the continuity of the enterprise and the financial security of those involved.
Finally, key person life insurance can make it easier for a business to secure financing. Lenders and investors are often more willing to work with businesses that have key person life insurance in place, as it provides an added layer of protection against unforeseen events.
How does Key Person Life Insurance work?
Key person life insurance policies work much like traditional life insurance policies. The business pays premiums on the policy, and in the event of the death of the key employee, the business receives a death benefit payout. The death benefit can be used to cover a variety of expenses associated with the loss of the key employee, including:
- Recruiting and training a replacement
- Paying off debts or other financial obligations
- Covering lost revenue or profits
- Paying severance or other expenses associated with the employee's departure
The amount of coverage needed will depend on a variety of factors, including the employee's salary, the value of their contributions to the business, and the potential financial impact of their loss.
Types of Key Person Life Insurance
There are two main types of key person life insurance policies: term and permanent.
Term Life Insurance
Term key person life insurance policies provide coverage for a specific period of time, typically 10, 15, 20 or even up to 30 years. Premiums are typically lower for term policies, making them an attractive option for businesses that need coverage for a shorter period of time. Term insurance, however, does not accumulate any cash value and will expire, at which time premiums will be reassessed to the insured's newly attained age and health rating, opening up future possible coverage risks if not managed properly.
Permanent Life Insurance
Permanent key person life insurance policies provide coverage for the duration of the key employee's life, avoiding any future coverage risks. As long as the company continues making premium payments and keeps the policy in force, the insured will remain covered for the remainder of their life. Premiums are typically higher for permanent policies, but they offer the advantage of building cash value over time. This cash value will grow tax deferred and is fully accessible to the company via policy loans or withdrawals. To read more about the benefits of permanent life insurance, you can view my blog post covering this exact topic here.
Factors to Consider
When selecting a key person life insurance policy, there are several factors to consider:
- Coverage amount: The amount of coverage needed will depend on a variety of factors, including the employee's salary, the value of their contributions to the business, and the potential financial impact of their loss.
- Type of policy: As discussed above, there are two main types of key person life insurance policies: term and permanent. The type of policy chosen will depend on the business's needs and budget.
- Premiums: Premiums will vary based on the coverage amount, type of policy, and the health and age of the key employee. It's important to carefully review premiums to ensure that they are affordable and sustainable for the business.
- Underwriting: Key person life insurance policies typically require a medical exam and underwriting process. It's important to be prepared for this process and to work with an experienced insurance agent to ensure that the process goes smoothly.
Conclusion
In conclusion, key person life insurance is an important tool for businesses that rely on key employees. By providing financial protection in the event of the death of a key employee, key person life insurance can help ensure the continuity of the enterprise and the financial security of those involved. When selecting a key person life insurance policy, it's important to carefully consider the coverage amount, type of policy, premiums, and underwriting process.