
In the fast-paced world of business ownership, there are countless things to consider. One crucial and yet often overlooked thing is key person insurance. Whether you are a solo entrepreneur or have multiple partners, this coverage is vital to ensure your business can endure during unexpected challenges. Let’s dive in to explore what key person insurance is, and why it’s essential for business owners.
Who is a Key Person?
A key person is anyone who is relied on in the business for its continued success. This could be the owner, the co-owner, a top executive (who brings in all the business) or a team member whose absence would critically impact the company’s operations and profitability. In many cases, the key person(s) is(are) the driving force behind client relationships, sales, strategic planning and operations.
For small businesses, especially solo entrepreneurs, the owner is often the most indispensable individual. If they became too ill to work, or suddenly passed away, the business couldn’t operate. As an example, imagine a dentist who owns the business and is the solo dentist in the office. If they became too ill to work, the business would likely suffer. Without the dentist, everything comes to a halt.
Why Business Owners Need Key Person Insurance
Life has a way of throwing curveballs, and in the event of a sudden illness, disability, or death of a key person, most businesses would be devastated and possibly go out of business. Key person insurance provides a financial safety net by offering a payout that can be used for:
- Cover lost revenue due to the absence of the key individual.
- Fund the search and training of a replacement.
- Payoff outstanding debts or loans to keep the business financially stable.
- Provide stability and reassurance to employees, clients, and stakeholders.
In the example of a dentist, let’s assume the dentist is diagnosed with stage 4 cancer. They would have access to funds to hire a substitute dentist and the ability to access funds to pay bills to keep the practice going. And since the funds can be used for any purpose, the dentist could also use funds to pay for an alternative treatment to fight the disease which was not covered by their health insurance. In this example, and because we’re Brightside Financial, we like that our dentist client stays financially afloat during their illness and able to beat their cancer into remission. The dentist is grateful they had this valuable coverage since they were able to continue their business and have a healthy practice to return to.
Key Person Insurance for Solo Entrepreneurs and Business Partnerships
Solo Business Owners: As the sole owner, you likely wear many hats. Without you, the business would struggle to generate revenue, and your family could be a risk financially if your income stopped. Key person insurance can provide a financial cushion to manage these challenges and protect the value of the business you’ve worked so hard to build.
Partnerships: If you have one or more business partners, the loss of a partner can create financial strain and operational difficulties. Key person insurance can fund a buy-sell agreement, allowing the surviving partner(s) to purchase the deceased partner’s share of the business. This ensures the business remains in capable hands and minimize disruptions. Without a buy-sell agreement and key person insurance in place, if one of the partners suddenly passed away, their surviving spouse technically becomes your new partner (since they would own the interest the deceased partner had). Why not have an agreement in place and fund it with key person insurance to ensure if that happened that you could buy them out?
Tax Advantages of a Permanent Policy
While key person insurance can be purchased with term or a permanent policy, permanent policies offer unique tax advantages that can benefit your business and personal finances. Here’s how:
- Cash Value Accumulation: With a permanent policy, a portion of the premium goes into a cash value account, which grows over time on a tax-deferred basis. This can be used as an additional financial resource for your business or in your retirement. And as long as the cash value is taken out as a loan, the funds are tax free.
- Tax-Free Death Benefit: the payout from a key person policy is generally tax-free to the business. So, it not only provides immediate liquidity when it’s needed most, but it’s tax free.
Protect Your Business and Your Future
Key person insurance isn’t just a safety net; it’s a strategic tool to protect your business, support your family and plan for your future. If you don’t have an evaluation on your business, please do not let that hold you back. We work with some excellent carriers who can help you with the evaluation. Let Brightside Financial help you explore options and tailor a policy that meets your unique needs.