For the next few weeks I am going to pick apart and try to make sense of business life insurance in all of its’ different forms. Just like personal life insurance, business life insurance is meant to take the burden off of a company in the same way that personal insurance takes a financial burden off of a family. It’s not a different kind of life insurance, just a standard life insurance policy designated for business purposes. I’ll touch on this a little later but there is also a way to use personal life insurance for some business purposes.
Confused yet? Well, let’s dig into one of the most prevalent types of business life insurance, the key person policy. Key person life insurance is most commonly used by the CEO or owner of a company when they are called upon to provide life insurance as collateral for a business loan, ensuring that the loan would be paid in full in the event of an untimely death. This has been a requirement of SBA loans for at least the last 20 years and most banks, independent of the SBA, require full or at least partial collateral through life insurance. Just to be clear about this type of collateral, it isn’t cash value that the lenders or investors are looking for. The lenders just want assurance that if the primary in the company dies, the loan will be paid off.
As I alluded in the first paragraph there are situations where personal life insurance can be used for business purposes. While likely not recommended by by most financial advisors, if the key person has enough personal life insurance in force they can do a collateral assignment from that policy for the portion of the death benefit that it would take to meet the bank requirements. The balancing act that financial advisors don’t like is that it decreases what would normally go to a spouse or family until the loan is paid off. The collateral assignment tracks the loan balance so that as the loan is paid down, the amount that is assigned never exceeds the amount due on the loan. For family reasons it is better to have a separate business policy, but there are cases where the bird in the hand is the way to go.
Key person life insurance can also be a valuable business tool in other cases. There are employees in most organizations who are “key” to the success of the company. It could be the COO or CFO or it could be the head of the sales department or the head of shipping and delivery or manufacturing. It is often sales teams that your customers have the most contact with and it is not unusual for the head of your sales team to be the face of the company to your valued customers, the reason they trust and do business with you. Key person life insurance in this case assures the company that in the event of that person’s untimely death, there is money available to the company to pursue and bring on board the very best replacement. If there is a person in your company that is key in customers continuing to do business with you, the timely and professional replacement of that person is a worthy consideration and the money from that key person life insurance can provide the capital needed to attract the very best person, in a hurry.
One other point, and this will carry through the other business life insurance policies, is how the premium paid by your company is treated for tax purposes. Life insurance proceeds are income tax free. The only thing that can ruin that amazing gift is if your company deducts the premiums as business expenses. There are some creative ways around that but unless your accountant has a structured plan and done their homework, don’t deduct the premiums
Bottom line. Whether you consider key person life insurance to satisfy your bank or the SBA, or to calm the jitters of of your customer base, it’s a worthy discussion to have. If you have questions or would like to discuss products and pricing, call or email me directly. My name is Ed Hinerman. Let’s talk.