Key Person Insurance, also called Key Employee Insurance or Key Man Insurance, is life insurance coverage bought by a business on essential employees’ lives. The business owns the policy, pays the premiums, and is the beneficiary of the policy. The business receives the insurance proceeds if the individual dies.
The objective of Key Person Insurance is to help the business survive, losing someone vital to the business. The individuals will be a employee, founders, or owners.
When a key employee dies suddenly, key man life insurance can provide necessary funds so the company can continue or be wound down in an orderly manner. Few of the things that person insurance can be used for include:
Replacing the employee is essential. These costs may include hiring temporary assistance, recruiting expenditures to discover a successor and values to train a new hire.
Losses related to the lack of the vital person. The essential person might have been involved in sales to clients depending upon the individual’s relationships. The person might have been managing projects. Their loss may result in waits to business projects, or lost earnings and profits.
Shareholder buyouts. In companies with several shareholders who work in the company, having key person insurance may offer financing to buy out the stake of the deceased shareholder or partner. Most companies wouldn’t be able to repurchase spouse shares from the ordinary cash flows or cash reserves, so with this insurance may provide liquidity to the deceased shareholder’s estate or heirs. Partnerships or closely held companies might want to set their key person insurance using a Buy/Sell Agreement, which spells out the conditions under which the organization or other partners can repurchase the possession of their deceased spouse.
Loan guarantees. Spouses or business owners are required to ensure the loans when a company borrows from a bank. By buying Key Person Insurance with sufficient coverage to pay off the company loans, the company would be able to pay back the company loans upon the death of the proprietor or partner. The owner or the estate of partner wouldn’t have the burden of paying the business loan off. Having this policy may also allow your company to borrow more readily, as banks consider key person insurance for a business asset they include in their financing decision.
Orderly liquidation. If a business isn’t able to continue as a result of death of a key person, funds from key person insurance can be used to pay off business debts, pay severance to workers, return cash to investors, and shut the company in an orderly way. This can give a business possibilities aside from bankruptcy upon a person’s death.
Who needs Key Person Insurance?
Key Person Insurance is essential for companies whose businesses would be devastated if a particular proprietor, partner, manager, or worker died. Generally, an integral person is somebody very hard or impossible to replace hiring. The crucial individuals could have personal relationships with key customers or specialized knowledge that’s hard to hire for.
Partnerships and closely-held firms with several shareholders who are employed in the business might want to have Key Person Insurance so the remaining partners can buy out the shares of the deceased spouse. This provides liquidity to the heirs of the deceased spouse and is also fair to the remaining partners. Since the deceased spouse is no longer able to operate in the business and create value for your company, the remaining partners may not need the deceased key person’s heirs to continue to get part of the company.
If a business has debts which are personally guaranteed by an owner or partner, key person insurance in the amount of the debt can enable the company to repay the debt when the key person dies. Since the essential person is not able to continue to create business for your company, it might be hard for the company to settle its debts with no key person insurance.
Companies who are sole proprietorships without employees usually don’t require key person insurance, because the company ends with the death of the sole proprietor. Unless there are business debt one-person corporations and one person LLCs generally wouldn’t require key person insurance.
It’s important not to confuse key person insurance with private life insurance. So that it can continue operations, key person insurance is supposed to benefit the business. For example, if you have dependents such as a spouse or children who depend on your earnings to survive, you might also want to buy personal life insurance.