For businesses of all sizes, certain individuals play an outsized role in driving success. These key people—whether founders, executives, or top performers—are often irreplaceable. Key person insurance (also known as key man insurance) is a vital tool to safeguard your business in the event of their loss. Here’s what you need to know about key person insurance and how it can protect your business.

1. What Is Key Person Insurance?

Key person insurance is a life or disability insurance policy taken out by a business on an individual whose skills, knowledge, or contributions are critical to its success. The business pays the premiums, owns the policy, and is the beneficiary. If the key person passes away or becomes incapacitated, the payout helps the business recover from the financial impact.

2. Why Your Business Might Need It

Key person insurance provides financial stability and continuity during difficult times. The payout can help cover:

• Loss of revenue caused by the key person’s absence.
• Costs of recruiting and training a replacement.
• Expenses related to winding down operations if the business can’t continue without the individual.
• Payments to creditors or investors to maintain business confidence.

3. Who Qualifies as a Key Person?

A key person can be anyone whose contribution is vital to the success of the business, such as:

• Founders or co-founders.
• CEOs or other executives.
• Top salespeople or rainmakers.
• Employees with unique technical skills or expertise.

Assess your business to identify individuals whose loss would significantly impact operations, revenue, or strategic direction.

4. Types of Coverage Available

Key person insurance typically comes in two forms:

• Life Insurance: Provides a payout to the business if the key person passes away. Policies can be term life (coverage for a specific time) or permanent life (coverage for the person’s lifetime).
• Disability Insurance: Pays out if the key person becomes disabled and can no longer fulfill their role.

Many businesses opt for both types to cover a broader range of risks.

5. How Much Coverage Do You Need?

Determining the right amount of coverage depends on several factors, including:

• The key person’s contribution to revenue or profits.
• The cost of hiring and training a replacement.
• Outstanding debts or financial obligations tied to the key person’s role.
• The potential loss of investor confidence or client relationships.

A financial advisor or insurance professional can help you calculate the appropriate coverage amount.

6. Tax Implications

The tax treatment of key person insurance depends on the policy’s purpose:

• Premiums: Generally, premiums are not tax-deductible as a business expense.
• Payouts: The death or disability benefit is usually received tax-free by the business.

Consult with a tax professional to understand the specific implications for your situation.

7. It’s Part of a Bigger Strategy

Key person insurance is just one piece of a comprehensive business continuity plan. It works best when paired with other strategies, such as:

• Succession planning to ensure leadership continuity.
• Buy-sell agreements to manage ownership transitions.
• Emergency cash reserves to handle unexpected challenges.

Regularly review and update your key person insurance policies to ensure they align with your business’s needs and growth.

Final Thoughts

Key person insurance is an essential safety net for businesses that rely on a few pivotal individuals to thrive. By planning ahead, you can mitigate risks, protect your company’s future, and provide peace of mind to employees, investors, and clients. If you haven’t already, consider speaking with an insurance professional to explore key person insurance options tailored to your business.