What is the purpose of key person insurance

August 10, 2022
A lot of time and effort goes into building a successful business. If you’re a small business owner, protecting what you’ve built is important. You may also have one or two employees that are vital to your company’s profitability. These are those individuals that your business relies on from day-to-day. If they were to disappear, your company would go under. That ‘s where key person insurance comes in. This insurance policy provides a level of protection for your business in case you or a key employee passes away.

What is key person life insurance?

Key person insurance is a special policy that companies or businesses can buy that insures the life of the owner or an employee that is essential to the business. It is also called key man insurance, key woman or business life insurance. The point of key person insurance is to provide some protection for the company. Policies are taken out on important employees or leaders to ensure the company doesn’t experience a financial loss if the individual passes away. The loss of an owner or essential employee in the company can cause significant troubles for a business. Having key person or business life insurance helps the company weather the change. It can give the organization extra time to develop a strategy or to find a suitable replacement.

Some of the circumstances that key person insurance can protect against include:

How does key person life insurance work?

Unlike other types of life insurance policies, with key person insurance, a business will buy the policy and they will be named the beneficiary. The company makes the premium payments and is paid the death benefit when the insured employee passes away. The funds that are paid to the company can be used to cover the costs of recruiting a replacement for the deceased employee.

It can also be used to keep the company in production while a new leader is found. However, if the business cannot find a replacement or the plan is to shut down, the death benefit funds can be used to cover any debts, taxes, or bills. The money can also cover the cost of severance for other employees, pay investors, and ensure the company does not go bankrupt.

It’s vital for businesses to identify those people or positions that are vital to their operations. If the loss of an employee would lead to financial troubles, buying a key person insurance policy can be beneficial. Additionally, you can use key person insurance to benefit your business in other ways. One could be to use the insurance policy as collateral for a loan. Permanent life insurance policies have an investment component. This can help your business save up money for future costs. You can even access the cash value of the policy to help cover business expenses.

Types of key person insurance

Like other life insurance policies, there are a variety of key person insurance products that you can buy. These include: Like other life insurance policies, there are a variety of key person insurance products that you can buy. These include:

Key person term life insurance

Term life insurance is one of the most common forms of life insurance policies available. It is also the most affordable. With a key person term life insurance plan, your key employee will be covered for a specific term. It could be 10 or 20 years or until they reach 65 years. Your business will pay premiums for the entire term of the insurance. If your key person passes away before the term is up, your business will receive a death benefit. However, if your key person does not pass away and the insurance policy term is up, you won’t have coverage anymore. It is possible to renew your life insurance coverage or buy a new policy, but you’ll end up with higher premiums because the key person to be insured is older.

Key person whole life insurance

A whole life insurance policy provides coverage for the entire life of the key person being insured. So long as your business pays the premiums, the policy will remain active. However, key person whole life insurance has higher premiums than term life insurance policies. Part of the premiums get channeled into investment and can build up cash value in your policy. Your business can access this money to cover expenses or use it as a loan.

Variable life key person insurance

This life insurance policy is similar to whole life insurance because your business will be covered for the entire life of the key person. It also has an investment element but the funds are not placed in a savings account. Instead, the money is put into an investment account. As investments can lose money, this type of life insurance is more of a risk.

Disability key person insurance

Sometimes you lose a key person at your business because of an accident that leaves them unable to do their job. If you have disability key person insurance, the life insurance provider will pay a percentage of the employee’s salary.

Who needs key person insurance?

Key person insurance offers a level of protection for a company. While any organization can benefit from a key person insurance, small businesses have the most to gain. Many small businesses run with just a handful of people. And, while each person is important to the company, the loss of some key individuals would be detrimental to the business. This is often the owner of the small business and one or two employees who multi-task to keep things running.

You can determine who fits into key person qualifications by considering what would happen to the company if that person were gone. If the business would suffer financially as a result of the loss, you should buy key person insurance for that individual. Key person insurance is a good fit for those individuals who have specialized knowledge, a strong reputation that financially benefits your business or employees who bring in significant revenue to your business.

This type of insurance can also benefit small business partners. While there is no key person in this circumstance, it can help a partner buy the shares of their deceased partner and keep the business running. It’s also important to note that some banks require you to have key person insurance as protection before they’ll approve your loan application. This protects the banks’ money and reassures them that the loan will be paid back. Investors may request you have key person insurance too.

How much does key person insurance cost?

The price of key person insurance depends on several factors, including the amount of coverage the business wants to purchase. It also comes down to the type of life insurance policy. A term life insurance policy will be less expensive than a permanent life insurance policy. However, a term life insurance policy expires once the term is up. At that point, the organization could purchase more life insurance but because the key person will be older, the premiums will be more expensive. Other factors that play into the cost of key person insurance are the age, gender, and health of the key person being insured.

How much key person insurance is needed?

How much coverage you want with your key person insurance depends on several factors, such as:
Replacing core employees and leaders at your business can cost a lot. You’ll want to know how much you’ll lose if the key person passes away. And find a key person insurance policy that will cover you for that amount. However, life insurance can be expensive. So, even if you’re not able to pay for insurance with the coverage amount you’ll need, it’s still best to have a policy that will replace some of the lost income.

What happens when the key person insured leaves their job?

If the key person that is insured quits or leaves their job with your company, there are some ways to deal with the insurance policy. These include:

Where can you buy key person insurance?

Many Canadian life insurance companies sell key person insurance, but it is a specialized product. So, it’s best to talk to one of our Shelter Bay insurance brokers about it. We’ll be able to help you find a key person insurance policy that fits your needs and budget. We can also help you understand your policy and any exclusions that could impact your business, such as suicide or contestability clauses.

Other insurance policies for businesses

Having insurance doesn’t just protect individuals from loss, but it can also help ensure your company is secure. Here are some other insurance products for business that you may want to consider:

Why Shelter Bay?

At Shelter Bay, we have over 200 years of collective experience in the insurance industry. Our team of insurance specialists has access to hundreds of life insurance policies. We can help you find the best key person insurance policy for your business. As insurance brokers, we’re not bound to sell life insurance products from any particular insurance company. That means you can trust us to have your company’s interest in mind.

If you’re thinking of buy a key person life insurance policy, contact Shelter Bay and let us help you protect the business you’ve built.

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