March 2001 volume 5, issue 1 

What would happen to your business if the unthinkable happened and you suddenly lost a vital employee—a manager, partner, product developer or key salesperson? If this person, so essential to your business, unexpectedly died, could your business recover and continue to prosper?

The answer would be an unequivocal yes if you had the foresight to purchase key person insurance. This form of life insurance is designed to protect a business if a key employee dies. If this indispensable person were a top salesperson, the insurance would cover the amount in lost sales until a new employee can be hired and trained. The same principle would apply if the key person were a manager—the insurance money could be used to find, hire and train a suitable replacement.

There are several different types of key person insurance, with the requisite advantages and disadvantages inherent in any kind of insurance. The "key" is to purchase the right insurance for your business. Members of the Financial Planning Group at Wilkinson and Company LLP can assist small business owners in determining what type of policy would best suit their needs, as well as determining the anticipated cost of replacing a key employee and the value of his or her contribution to the company’s revenues. Generally, a policy for at least five times the employee’s annual salary should be considered. There are three broad types of policies currently available,:

A Term Policy is a low-cost option which would provide funds to help replace the loss of a particular employee.

A Permanent Life Insurance Policy offers two benefits—it would pay to help replace the loss of a specific employee, and it also accumulates a cash value, which could fund a retirement plan for that employee.

A First-To-Die Policy, on the other hand, insures the lives of several essential employees but—it pays only when the first of the listed employees dies. The advantage of purchasing this type of policy is that it costs less than buying separate policies for each of the key workers.

Key person insurance is also advantageous in partnerships and small corporations to finance buy/sell agreements to provide the surviving partner or shareholders with the funds to purchase the deceased’s partnership interest or shares.

Venture capitalists often insist on key person insurance, especially when the success of a business hinges on one or a few key people. Key person insurance is their way of protecting their investment in the event of the death of an essential person.

Also to be considered is Critical Illness Insurance, which aims to bridge the gap between life and disability insurance. This type of policy is generally purchased by the individual and covers the insured upon diagnosis of a serious, life-threatening illness, but such a policy could be purchased by a business to insure a key employee—to absorb the cost of replacing the employee in the event that they become critically ill and unable to work.

Business owners can take other steps to ensure their company continues to prosper in the event of the loss of a critical employee; for example, training more than one person to perform pivotal tasks or at least ensuring that the task can be outsourced in the event of the untimely demise of a key member of your team.

Foresight and the purchase of the right insurance can often make or break a company should a key person die. A member of the Financial Planning Group at Wilkinson & Company LLP can advise you as to how to best protect your business and ensure its continued prosperity.

Jim Coward, CA, CFP, is a Client Services Partner and Certified Financial Planner with Wilkinson & Company LLP.