Key Person Planning
What is Key Person Insurance?
Businesses insure their physical assets like buildings, machinery, and equipment, but often overlook their most important asset - their people. Each business, regardless of size, has an individual or group of individuals whose contributions are imperative to its success. The unexpected death or disability of one of these "key" people threatens the success of the company.
Key person insurance is a life insurance policy on these essential employees or partners. The business pays the premiums and owns the policy. In the event this key person passes away, the business will receive a death benefit that can be used to sustain the business as it recovers from the loss.
What Financial Costs Are Associated With the Death of a Key Person?
Financial costs can have a direct effect on the bottom line, while others can have negative long-term effects including:
Costs for recruiting and training a replacement for the key person
Lost profit due to a replacement person's need for training, learning their role, and building chemistry with their teammates
Lost earnings from a lack of sales
Internal inefficiencies causing slowed workflow process
The loss of skill or knowledge that is integral to the business
Customers who have built a relationship with the key person who has died may have concerns about the business and its ability to continue to provide them with the service they need
The death of the key person can be concerning to creditors and create holds on new credit or accelerate requests to pay back loans
Determining the Value of a Key Employee
There is no set formula for determining the exact value of a key employee but there are several factors that can and should be used in approximating a person's worth to the company. The approach taken by most carriers' is to take a multiple of the key person's total compensation plus any debts or easily identifiable costs relating to him or her.
Important Notes
Life insurance premiums paid by the business are NOT tax deductible!
The business will be the owner of the life insurance policy and the insured (Key Person) will not have personal rights to cash value or the death benefit unless separately agreed to