Despite common misconceptions, key man insurance does not discriminate against women. Any member of staff, business partner, or owner who contributes significantly to the company is considered a “key player.” The goal is to ease the financial burden on a company in the event of the death of a key employee.
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A key man life insurance policy paid for by the company with tax-free funds is a great perk for employees. There is no tax write-off for the premiums. There is no income tax due on the transfer to the worker’s family.
To what extent does key man insurance protect a company? Read on to learn more about this special kind of insurance.
What is insurance?
In the event of a disaster like a fire, theft, legal action, or automobile accident, insurance can help you and your loved ones get back on your feet financially. An insurance policy is the legally binding agreement between you and your insurance company. When a policyholder files a claim after suffering a covered loss, the insurer makes a payment to the policyholder or the policyholder’s designated beneficiary.
The biggest problem with insurance is shelling out money for a service you hope you’ll never need. Obviously, nobody hopes that bad things will come their way. However, losing everything without insurance can be extremely challenging financially.
What are the benefits of insurance?
Insurance is a crucial part of any sound financial plan. Having the assurance of knowing you will be financially supported in the event of a disaster or accident can help you get back on your feet more quickly. Having life insurance could mean that your loved ones can stay in their home and continue their education without having to sell it. In the case of auto insurance, it could mean having the financial resources to pay for necessary repairs or a new vehicle in the event of an accident. After a catastrophic event, insurance can help you get your life back on track.
Learn more about the advantages of insurance and your policy’s particular advantages by consulting with your independent insurance agent. A life insurance policy may offer additional benefits on top of the insurance coverage, such as free roadside assistance, risk control consulting for businesses, or a cash value.
And in order to protect others, the law may mandate that you carry certain types of insurance, such as auto and worker’s comp.
How does insurance work?
In essence, insurance is a pooled emergency savings account owned by a group of people (policyholders) and managed by an insurance company. The premiums paid by policyholders, along with earnings from other investments, are what the insurance company uses to run its business and pay out claims.
Since natural disasters such as tornadoes, hail, wildfires, and hurricanes, as well as man-made disasters like car accidents and house fires, can strike at any time without warning, an insurance company’s top priority is to ensure its financial stability in the face of such uncertainty.
How do I choose an insurance provider?
When deciding on an insurance provider, it’s important to keep in mind the following details:
Can you tell me about the company’s insurance plans? Is there a discount if you get all of your insurance through the business?
If you filed a claim, would the company be able to honor it? Determine the firm’s financial stability by consulting AM Best, a U.S. credit rating agency.
Do you feel more comfortable working with someone in your immediate area? Or, would you rather handle your insurance needs independently?
Is it common practice to endorse this firm? What do the reviews on various websites say about it?
If you have any questions about insurance, don’t hesitate to contact a local, independent agent. Agents are trained professionals who know the ins and outs of the insurance industry and can help you and your loved ones find the coverage that’s right for you.
What Is A Key Man Insurance Policy
1. Why You Need Key Man Insurance
The success of many companies, especially those of a smaller or medium size, hinges on the efforts of just a few key individuals. Employee morale may suffer, and the company’s bottom line may take a hit, if that person is no longer there to do their job. Owners, partners, and executives all play pivotal roles in the company.
Approximately 60% of a company’s sales are lost, according to a study, after the death of a founding entrepreneur. When a company loses a key employee, its chances of survival drop by 20% for the next two years.
Consider how the loss of a key employee would affect your business when deciding whether or not to invest in key employee insurance.
2. Who Is a Key Person?
There is no hard and fast definition of what constitutes a “key person” in a company’s eyes. A person’s contribution to a company’s bottom line is most obvious when they are an owner or an employee. They could be a major player in their scheme.
Key man insurance is recommended for the following individuals:
- Personnel turnover is a major problem.
- Managers in charge of product creation
- Managers of sales staff
- CEOs, COOs, and other C-suite executives
- business owners who work together as equals
You might want to make a list of your staff members, the roles they play, and the consequences of losing them. This analysis will tell you which employees should have key man insurance.
3. Types of Life Insurance
Key man insurance can be created out of any type of life insurance policy.
Coverage under a term life insurance policy typically lasts for a predetermined number of years, anywhere from 10 to 40. Premiums are cheaper and typically have a term that coincides with the insured’s expected retirement age.
Permanent or whole life insurance policies are designed to last the entirety of the policyholder’s life. The premiums are split, with a portion going into a savings account. The growing cash value is an asset that can be used to secure a loan.
The company could benefit from dividends from permanent life insurance. If the company decides it no longer needs insurance, it can cash in the policy and use the proceeds however it sees fit.
Key man insurance is typically term insurance due to its lower premiums. The company should evaluate the insurance it has in place on a regular basis regardless of the type of insurance it offers. The purpose of the evaluation is to ascertain whether or not each key employee requires a higher or lower level of coverage.
4. Key Man Life Insurance Tax Treatment
The premiums for key man insurance are paid out of pocket and are therefore not deductible. The only possible exception is if the insurance results in a higher taxable income for the employee. Consult your company’s accountant to ascertain any potential tax liability or benefit.
In most cases, the beneficiary of a key man insurance policy will not have to pay income tax on the death benefit they receive. C corporations are the one notable exception.
The death benefit must be factored into the alternative minimum tax (AMT) calculation for C corporations. Key man insurance coverage details must be disclosed annually in the company’s tax return. Information such as the total number of employees covered, the dollar amount of coverage for each employee, and whether or not the employee consented to the policy being purchased should be recorded here.
5. Tax Treatment for Employees
If the company is the sole owner and beneficiary, the insured employee will not be subject to any tax consequences. There may be tax consequences for the employee if ownership of the key man insurance policy is transferred to them. The insurance might be considered payment by the IRS at the time of the transfer.
6. How Much Key Man Insurance Coverage Is Necessary?
How much insurance protection you need for each key employee depends on how much of a financial hit your company would take if that person suddenly left. This decision is based on how much of a positive impact that employee has on the company’s bottom line. Consider the company’s overall expense structure, as well as the “soft” value of the employee and the cost of finding a suitable replacement.
Coverage is typically determined using one of the following methods:
Multiply the worker’s annual salary by the number of years the business believes it will take to fully recover from the loss of that worker.
Multiply the employee’s annual percentage share of revenue or profit by the number of years it could take to replace them.
The total cost of replacing a key employee takes into account not only the salary of a new hire but also the time and money spent on recruitment, orientation, and training.
The income of the insured, their level of ownership in the company, and the legal structure of the company all play a role in determining the maximum policy value.
7. Key Man Life Insurance
Key man term insurance differs from regular life insurance in that it provides protection for a specific individual. Individuals can be protected by a regular life insurance policy. Cash benefits are paid out to the insured’s family in the event of death.
Business owners should consider purchasing a key man insurance policy. It protects the business’ most valuable assets—its key employees. In the unfortunate event of the insured’s passing, the company will receive a much-needed cash infusion.
The money will make up for the revenue loss the company will experience as a result of the death of a key employee. The company could use the money to pay down debt or cover the price of training new employees.
One major perk is that the company can compensate the employee’s heirs for their loss of business ownership. By doing so, the company can ensure the financial well-being of a key employee’s loved ones without giving up control of the company.
Policy buyers might do well to investigate the many succession strategies currently at their disposal. You may want to think about buying a buy-sell agreement insurance policy, among other things.
8. Key Man Disability Insurance
In the event that a key employee becomes disabled and unable to work, the policy will pay benefits to the business. A typical disability insurance plan will compensate the insured for lost wages and medical costs.
If a key employee becomes disabled, the company can collect on a key man disability policy to compensate for lost profits and other expenses. Insurance premiums will vary by each worker’s age, health status, and position within the company.
Extracurricular pursuits are also something to take into account. Some examples of such high-risk pursuits include learning to fly an airplane, mountain climbing, motorcycle racing, and so on.
9. Limitations of Key Man Insurance
Only in the unfortunate event of the death of a key employee is the business protected by keyman insurance. Having a key employee retire or leave to accept a position with a competitor is not something that can be compensated for.
Employees who are not essential to the smooth running of the company and the generation of income are ineligible for coverage under this plan. Key man insurance is not available for any third parties used by your company other than employees.
10. Key Man Insurance Policy Cost
Your insurance agent will get out their key man insurance calculator and get to work finding you the best possible policy at the lowest possible price. The cost of your key man insurance policy will depend on a number of variables, including:
- Permanent life insurance is more expensive than term insurance.
- Term insurance only provides protection for a specified time frame and does not build cash value.
- The premiums for permanent life insurance are more expensive, but the coverage is more comprehensive.
- The policy premium increases in proportion to the death benefit.
- The age, medical history, and family medical history of the employee as a whole
- Activities, occupation, and driving history of employees
It costs more to insure workers who are older or who have preexisting health conditions. Consider exploring all of Hummel Group’s available business opportunities. Services like financial planning and business succession planning are also a part of this category.
Financial Security for Your Business
Business owners often buy executive liability insurance to protect themselves from financial ruin in the event that one of their executives is sued. They don’t give much thought to what would happen if a key person suddenly passed away, leaving the business in jeopardy. You should think about a variety of insurance policies for your company, including key man insurance.
Hummel Group should be consulted when developing or revising operational procedures and the associated budget. We offer an extensive selection of business services to accommodate your company’s specific requirements. To request a quote, you can either call us at 800-860-1060 or fill out our online form.