Is Key Person Insurance Right for Your Small Business?
5th of February 2025
6 minute readStarting and running a small business comes with unique challenges. One of the most important is protecting it from unexpected events. Key person insurance is a smart tool that can help safeguard your business in case something happens to a crucial team member.
Key person insurance can be an essential tool for small businesses, especially if you rely heavily on a few key employees. This policy provides financial protection in case a crucial person in your business passes away or becomes incapacitated, helping to cover potential losses.
You may wonder if key person insurance is the right fit for your business. In this post, we’ll dive deeper into what this insurance is and how it can be beneficial to you, offering clarity and helping you make an informed decision.
Find out if key person insurance is the right choice for your small business. Click below to learn more.
Is Key Person Insurance Right for Your Small Business?
Running a small business requires you to wear many hats, but it’s crucial to realise that some employees or partners are irreplaceable. Whether it’s a top salesperson, a skilled technician, or even the owner, there are individuals whose skills, knowledge, and leadership are vital for your company’s success. This is where key person insurance comes in – a policy designed to protect your business if one of these critical individuals can no longer work due to illness, injury, or death.
Key person insurance is a type of life insurance policy that a business takes out on a key individual within the company. The company pays the premiums, and in the event of the key person’s death or incapacitation, the business receives a lump sum payout. This payout can be used to cover the cost of recruiting and training a replacement, repay business debts, or cover lost profits during a challenging transition period.
Why You Should Consider Key Person Insurance
- Financial Protection During Transitions: A key person’s death or serious illness can lead to substantial financial losses for your business, especially if their role is difficult to fill quickly. Key person insurance can provide the necessary financial cushion to bridge this gap. It helps keep your business running smoothly by giving you time to adapt to the sudden loss of a valuable employee.
- Securing Business Loans and Funding: Lenders and investors often want assurance that a business is stable before offering funding. Having key person insurance in place demonstrates to banks or investors that you have a plan to manage unexpected risks. This can help your business secure loans or funding more easily, ensuring it has the necessary financial resources to thrive.
- Retaining Employee Confidence: Key employees may worry about the future stability of the business if something happens to a colleague or key leader. Key person insurance shows that you are prepared to protect the company, which can instil confidence in your team and make them feel more secure in their roles.
- Addressing Business Value: If you are planning to sell your business or attract investors, having key person insurance can add value. It demonstrates to potential buyers that your business is more than just dependent on one or two individuals, making it a more attractive investment. It also shows that you’re proactive in managing risks and preserving the long-term health of your company.
Understanding the Importance of Key Person Insurance
Key person insurance is not just for large corporations. Small businesses, especially those with a few key people who are integral to operations, can greatly benefit from it. Without such insurance, the business could face financial instability if something happens to an irreplaceable team member.
The purpose of key person insurance is to provide a financial lifeline to the business during the difficult period of adjusting to such a loss. The payout from the policy can help cover:
- Recruitment and training costs for a replacement.
- Business debts or financial obligations that may become challenging to manage without the key person.
- Loss of revenue due to a sudden absence in a critical role.
Without the financial protection offered by this type of insurance, the business may struggle to recover and continue operations.
Who Should Be Covered by Key Person Insurance?
Not every employee needs to be covered by key person insurance. The individuals that should be considered for coverage are those whose absence would directly impact the success or financial health of the business. Typically, this includes:
- The business owner: Especially if you are the driving force behind your small business.
- Top managers: These individuals hold significant responsibility for running the daily operations of the business.
- Salespeople: A salesperson who brings in a large portion of the business’s revenue is often considered a key person.
- Specialised technical staff: If a particular skill is rare and difficult to replace, the loss of that individual could result in disruptions.
Evaluating your business structure and determining which people are truly irreplaceable is a key step in deciding who should be covered under key person insurance.
What Does Key Person Insurance Cover?
Key person insurance is a flexible tool, and the coverage can vary depending on your needs. Generally, it can cover:
- Death: The most common situation covered by key person insurance. If a key person dies, the business receives a payout to help cover financial losses and transition costs.
- Disability: If a key person becomes disabled and unable to work, the policy can provide a payout to cover lost income and recruitment costs for a temporary or permanent replacement.
- Illness or injury: Depending on the policy, illness or injury that affects the key person’s ability to contribute to the business can also trigger a payout.
These payments can help maintain the business’s financial stability while dealing with the impact of losing a crucial employee.
Key Benefits of Key Person Insurance for Small Businesses
Here are some of the most important advantages of key person insurance for small businesses:
- Stability During Difficult Times: Losing a key person unexpectedly can cause chaos in a business. Key person insurance helps provide financial support, so your business can stay afloat during this transition.
- Business Continuity: The insurance ensures that your business can continue operating while you figure out how to replace the key person. This can help avoid disruption of services or products, which could harm your reputation and relationships with clients.
- Protection Against Financial Risk: Without key person insurance, your business could be exposed to significant financial risk. It might take time to replace a key person, and the business could face a decline in revenue, missed opportunities, or additional costs. Key person insurance offers protection against these risks.
- Succession Planning: Key person insurance can be an important part of your business’s overall succession plan. It allows you to prepare for the future by creating a safety net, ensuring that your business is not solely dependent on one or two individuals.
Is Key Person Insurance Expensive?
The cost of key person insurance depends on several factors, including the role and value of the individual being insured, the amount of coverage you need, and the health of the insured person. For example, a young, healthy employee may cost less to insure than an older employee with health concerns.
However, for small businesses, the cost is often considered a reasonable investment given the potential risks of losing a key person. While the premiums are an ongoing expense, the benefit of having this coverage can be invaluable in times of crisis. It is important to assess the risk and determine the appropriate coverage to balance the cost of the policy with the protection it offers.
Should You Get Key Person Insurance?
If your business depends heavily on one or more individuals, it is wise to consider key person insurance. It provides financial security for your business, helps maintain stability, and ensures that your business can weather the storm in case of a sudden loss.
Before making a decision, it’s essential to assess the value of your key people and the potential impact their loss could have on your business. If your business is reliant on a few key individuals, the investment in this insurance may be well worth the peace of mind it provides.
If you are considering key person insurance for your small business, click the link below to learn more about your options and how to get started with the right coverage for your business.
FAQ
How much key person insurance do I need?
The amount of coverage depends on your business needs. Consider the revenue generated by the key person, their role in your business, and the potential costs involved in finding a replacement. A financial adviser can help determine the right amount.
Can I insure multiple key people?
Yes, key person insurance can cover more than one individual. If your business relies on several employees, you may want to insure more than one key person to ensure broader protection.
Is key person insurance a tax-deductible expense?
Generally, premiums for key person insurance are not tax-deductible. However, the payout from the policy is typically tax-free for the business. Consult with an accountant to understand the full tax implications for your business.
What happens if the insured person leaves the company?
If the insured person leaves the company, you may be able to cancel the policy or transfer it to another individual within the business. Speak with your insurance provider to explore your options.