As a business owner, you may be accountable for the livelihood of your employees. A life insurance policy will help protect your business in case you unexpectedly pass away. It is important to keep your succession intact and ensure that your employees can continue working at your company. Life insurance is also important for business owners whose family members depend on the income the company generates. Life insurance helps to protect the business. If an owner dies, the compensation can be used to cover the outstanding business debt. If you used your house as a collateral for your business loan, you require life insurance so your family will not be roofless, because they cannot afford to pay off the loan. It is also possible to purchase term life insurance and designate your company as the beneficiary. It allows businesses to operate with the funds that are required for it. Life insurance also proves useful for those businessmen who have partners, as it is possible to draw up a contract where business partners will purchase the shares in case one of the owners dies. You can also designate a key person to whom the business shares will be passed on with the term or permanent life insurance policy. Now let’s look in more detail at the situations when life insurance can be utilized for you, or your key employees, so it is beneficial to the business:
- Extra protection for key executives. Business owners usually have higher incomes and subsequently larger death compensation protection in comparison to ordinary employer sponsored programs. By providing main shareholders of the company with a life insurance plan, you ensure an additional level of protection that better suits their needs.
- A way to cash value. It is possible to borrow against the generated cash value if a business owner has a complete life insurance policy. These accumulated funds can be used for a variety of purposes and help business during times of economic uncertainties.
- Executive compensations. An organization can assist its employees to obtain extra life insurance through an executive compensation plan. The executive will have the life insurance policy and pay monthly fees, while the company will compensate an amount that corresponds to the sum they pay monthly. Key employees can use the cash generated by this bonus program to increase their retirement funds or for other purposes. If one of these representatives happens to pass on while being employed, their family will receive the compensation.
- Legacy planning. A life insurance plan often lies at the heart of business legacy planning. Payouts from this program can be used by the key executives to acquire the late partner’s shares. This planning allows the business to run without a problem if one of the owners passes away. It is also possible for the successor to use the policy’s accumulated cash to purchase company’s shares when the owner retires.
Valuing key employees is essential, but it might be problematic to designate the exact amount of money one of the executives brings to the company. The amount covered by the insurance company should be relevant to the specific needs of the company, in case of death or disability of its executive. There are several valuation methods that help to determine the amount that will cover the needs of the company and satisfy the insurer:
- The method of multiples of income. Insurers usually define the amount for the insurance play of the executives by multiplying their salary by five. For a person whose annual salary is $200 000 the insurance plan needs to cover $1, 000 000.
- The substitution cost method. The replacing the key employee defines the amount that the insurance plan should cover. Salary is not the only factor, but also the spendings necessary to recruit, educate and bring an employee to the same standard the late employee had. Also the decline in revenue should be taken in consideration when calculating the amount.
- The contributions to revenue method. It is the method that uses the amount of the profit that a key employee brings to the company on a regular basis. We will use a simple example to make it clearer: let’s say there is a best salesman in the company whose work efforts result in high returns to the company and generate the larger portion of company’s revenue. This method requires taking into consideration the losses that the company will have while training a replacement for such an important company representative.
When you consider life insurance for yourself or other key employees you might opt for multiple kinds of policies. It is recommended to speak with a professional financial planner and establish what finances should be covered in case one of the key employees passes on. You can use the information provided in this article as a basis when you speak with the life insurance representative.