Key Person Insurance vs Life Insurance

Insurance safeguards your business, family, and personal welfare if something bad happens. Most would agree that the worst event that can occur is the loss of life. Having insurance policies in place that can protect your employees, their families, and your business at these unfortunate times can provide a little solace in a tragic situation and make the event a bit less damaging for all.

As a business owner, you have options for purchasing life insurance. You can provide policies to all employees, but there is more you can do. What policies should you get – key person insurance vs life insurance?

Key person insurance, previously referred to as key man insurance, is a special kind that can be purchased for select individuals. We’ll break down the differences between traditional life insurance and this specified type of coverage. Let’s start with the one you likely already know something about:

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What is Life Insurance?

A standard life insurance policy is something that practically all employers offer. Life insurance is a contract between a person and an insurance company. If an employer offers life insurance, it is seen as an employee benefit, as policies may be available at a lesser rate when purchased in bulk as opposed to when bought as a single entity.

If death occurs, the insurance company will pay beneficiaries a lump sum known as a death benefit. There are two primary kinds of classifications of life insurance:

  1. Term life insurance: This kind of life insurance provides coverage for a specific period, usually between 10-40 years, the term is typically tied to the anticipated date of retirement.
  • Permanent or whole life insurance: Permanent policies provide coverage for the insured’s lifetime and accumulate in value as a portion of the premiums is deposited into a cash-value account over time.

What Does Life Insurance Cover?

Life insurance usually covers most causes of death, including natural causes, accidents, homicide, and suicide. In the event of death, money will be paid directly to beneficiaries. They can use the money how they like, but common uses include things like:

  • Estate taxes and funeral expenses
  • Covering basic living expenses
  • Paying household debts
  • Replacing lost income
  • Funding a child’s education
  • Supplementing retirement savings

What Doesn’t Life Insurance Cover?

Under some circumstances, life insurance policies will withhold a payout to beneficiaries. Reasons may include things like:

  • A life insurance policy is expired
  • There was fraudulent or criminal activity committed on behalf of the policyholder
  • The policyholder’s death involved risky behavior, like partaking in extreme sports

What is Key Person Insurance?

Somewhat similar to life insurance in practice–it’s a policy paid out at the time of an employee’s death–key person insurance is paid out to the business–as they are the policyholder in this case. It is a form of company-owned life insurance (COLI). There are times though, when the business and the family members receive a payout.

Plainly put, the business owns the policy, pays the premiums, and is the beneficiary. Key person insurance is a life insurance policy that a business owner takes out on its most valuable employee or employees.

The employee does have to provide consent. In addition to coverage in case of a death, a policy can also include a rider for disability coverage. If a key person dies, the business then collects a death benefit. The purpose of this kind of insurance is to protect the business owner if they lose an invaluable employee due to death–and not a termination or voluntary exit.

What Does Key Person Insurance Cover?

Key person insurance can be used by a business to rebound after the loss of a key contributor. This individual had a direct line to the company’s overall success and therefore the funds can be used to:

  • Ramp up recruitment of high-performing and competitive candidates to fill the vacant role
  • Make up for lost sales, productivity, and operational disruption costs
  • Aid in funding rebranding efforts if the individual had a consumer-facing role
  • Provide money to the family of the deceased

What Doesn’t Key Person Insurance Cover?

These policies will not cover contractors or freelancers, and payouts are only made when the person dies and will not provide funds in the event of retirement or termination.

What Does a Key Person Look Like?

A key person is an employee who is considered irreplaceable. It can be a business owner, especially if the business or brand is named after that person. Policies can also be taken out for C-suite individuals or niche product developers. Those in highly specialized roles or those who are superior in their field and drive revenue in exceptional capacities can also be considered key people.

What’s the Cost of Life and Key Person Insurance?

While any cost of an insurance plan will consider certain factors, typically, insurance companies base group life premiums on the overall risk of the company or group. Term life insurance policies are usually less costly than permanent or whole life insurance. Generally, a good rule of thumb is that the higher the death benefit, the higher the premium.

As for determining the cost of key person insurance, that will also differ depending on the case, but to get an idea of the expense you can add the person’s salary to their direct financial contribution to your company’s bottom line per year, then multiply the result by five. Insurance companies will also consider additional factors like the time and effort it will take to find and recruit a replacement, the cost of recruitment, operational disruption costs, lost productivity, and lost sales.

Should Your Business Get Key Person Insurance vs Life Insurance?

Outside of knowing that your company won’t incur great financial loss concurrent with the loss of human life, another reason you may be interested in key person insurance could be because you are applying for a business loan or other financing. In these cases, a lender or investor may require a key person policy as collateral.

Ultimately, when deciding between the two kinds of insurance, you may find that you’ll end up with both. As noted earlier, key person insurance doesn’t cover all employees so even if you do have a person in mind, it won’t cover all of your staff. Group life insurance is a type of personal life insurance that employers can offer to all their workers at lower rates and can be available to the entire company.

For personalized advice and to explore the best options for your business, reach out to Spencer Insurance Agency, Inc. Our team is here to guide you through the process and ensure you have the right coverage in place.

Call: (215) 885-2200 | Text: (855) 287-2200| Email: INFO@SPENCERINSURANCE.COM https://spencerinsurance.com/

Source:  https://www.embroker.com/blog/key-man-insurance-vs-life-insurance/

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