The case for key employee life insurance
Key employee life insurance, also called key employee valuation, is standard life insurance used for business
succession. It protects a business against significant financial loss incurred as a result of the death or disability
of a key employee.
How does it work? Typically, the business owns the key employee life insurance policy, pays the premiums and
is the beneficiary of the policy. The business receives the insurance payoff upon the loss of the employee, with
the proceeds paid to the corporation or its creditors.
Key employee life insurance can afford you many benefits. First, the value of your investment and the ongoing
credit of the business itself is stabilized. Policy cash values are carried as a corporate asset and can be made
readily available for an emergency or opportunity. In the event of a death, the infusion of cash can help
cushion the impact of the loss.
Key employee life insurance can also assist you at the negotiating table. Lending institutions look for
assurances in the event a business they are working with loses a key employee. In essence, key employee life
insurance serves as a form of commercial loan protection as well as collateral for securing future commercial
Lastly, there’s no restriction on how the cash upon the employee’s death is used. You can use the proceeds
for many purposes, such as finding a qualified replacement for the deceased key employee, paying for training
the replacement, replacing lost profits and protecting your company’s credit rating.
Insuring a key employee at what cost?
Key employee life insurance can come at a high price. The cost of a policy depends upon a number of factors
The type of insurance. Term life insurance policies are less expensive than whole or variable life
policies and cover a fixed period of time. Policies that accumulate cash value are appropriate in
The employee’s health and lifestyle. Age, medical history, hobbies, occupation and family
history help determine the risk level, which affects the premium.
The amount of coverage. The greater the amount of coverage for the death benefit, the greater
the cost overall.
Premiums must be paid with after-tax dollars, and the business cannot use money allocated to premiums for
any other corporate purpose.
Calculating amount of coverage
There are many considerations when calculating how much key employee life insurance a business needs.
Many policies are assessed as a five- to 10-multiple of the employee’s compensation. Cost of replacing the
employee is another consideration: How much money would it take to hire and train a replacement, as well as
the loss of revenue during the hiring/training period?
The percent of company profits contributed by the employee, multiplied by the number of years it would take
to replace them, is often used in determining coverage. For example, if the employee brought in $100,000 of
the company’s $200,000 profits last year, and it will take two years to hire and train a replacement, you might
want to purchase $200,000 in coverage ($100,000 x 2 years).
Is key employee life insurance right for your
Key employee life insurance does not make sense for every business. A sole proprietorship without any
employees would be wise to forgo key employee life insurance and instead secure an individual life insurance
policy to protect against the sudden loss of income.
If you need assistance determining appropriate coverage and cost, your insurance agent can offer guidance
and explain all coverage and premium options available.