Key Man Insurance: Who needs it? How much to buy?

In order to buy life insurance on another person, the government requires that you have an "insurable interest." Most people think immediately of spouse, child, grandchild, or other family member. However, the government also considers a "key person" under the qualification of insurable interest. request rates »

The Big Business Secret
Most large corporations have life insurance on their CEOs and other key individuals in the company. Anyone who would be costly to replace because of skill, responsibility or ownership could be insured as a key person (or key executive). However, many smaller businesses fail to think about this need until a key individual is killed in an auto accident or some other unexpected event. The expense of time and money for training a new individual or hiring a proper replacement can bring even a solid business to the edge of disaster.

Who should Purchase Key Man Insurance
If you own or are a partner in a business, or if you have certain managers or employees who would cost significant money to replace, you can take out key person insurance. With this coverage, the business is the applicant, owner, premium payer and beneficiary. The business cannot take the premiums as a tax deduction, but the benefits are received tax free.

Types of Policies
Term, Whole and Universal Life are usually available for this type of coverage. However, unless the business has a particular reason for wanting a policy that builds cash value (for example, some businesses transfer ownership of a life policy to the insured as a retiree benefit), the most common types of key man insurance are term or universal with only a target premium. It can also be a joint policy such as "first to die." The type of coverage you should take depends on the person you are insuring and on the time period you anticipate needing that protection.

How Much should you Buy
When purchasing this type of insurance, the one thing you should not do is settle for the first rates the agent offers without knowing whether or not it will be adequate. Although your calculation need not to be so elaborate you need a tax consultant to figure it out, you do need to think about the actual value of that person to the business. That is, how much money will it take to advertise, hire and train the person who will replace the deceased? If the insured is a partner, you will probably (or at least you should) have a partnership agreement that allows you the first option to buy the partner's share of the business if he/she should die. You need enough insurance on each partner to provide adequate funds for such a contingency.

The following is a list of individuals on whom you might consider purchasing insurance:

• Partners/Owners
• CEO or other Executives
• Chief Accountants or bookkeepers
• Engineers or people with particular skills; these individuals can be very difficult to replace.