Using Life Insurance to Protect Your Business
By Kathryn Hawkins
If you own a business, have you considered what would happen to your company if you, your business partner, or another essential employee died unexpectedly? A succession plan that includes life insurance can help protect both your company and your family in the event of a death. In certain cases, life insurance can even be used to provide a financial boost to the policyholder's business during his or her lifetime.
Life insurance can help protect a business's assets and provide immediate access to capital when it is most needed. Here are ways a well-thought-through insurance plan could assist your firm:
Covering your company's financial obligations
Many small businesses have sizable bank loans and the death of an owner may jeopardize repayments until the business stabilizes from the shock of the loss. "If an individual critical to the success of the business dies, there could be significant loss of revenue," says Marvin Feldman, president and chief executive of the nonprofit Life Happens.
A life insurance benefit payment can be used to pay off outstanding loans immediately while the company regains its financial footing. "It's an excellent way to make sure that the loan doesn't drag the company underwater," says Feldman.
Facilitating a buy-sell arrangement between business partners
If your company has multiple owners, it's important to ensure that, in the event of a partner's death, the other partner would have the capital to buy out a deceased partner's family if they so desired. "The last thing you want is a family that isn't involved in running the company demanding money from the company," says Feldman. In this situation, partners should get a formal appraisal of the business's value and consult with lawyers to finalize a buy-sell plan, agreeing on the amount that each partner's share will be worth in the event of a buyout.
In the event of an owner's death, the surviving partner can use proceeds from a life insurance policy to fund the purchase. Businesses with two owners can enter a "cross-purchase plan," in which each owner serves as beneficiary for the other partner's policy. When the surviving partner receives the funds, he or she can use them to purchase the business share from the deceased owner's family. A business with several owners can purchase life insurance for each owner, with the proceeds earmarked for purchasing the deceased's business interest.
Protecting the company against the loss of a star employee
Life insurance isn't only important for company owners: If you have an executive or salesperson who is directly responsible for bringing in a significant portion of your company's revenue, it may be worth investing in a policy on that person, with benefit payments awarded to the business in the event of the employee's death. This type of insurance is often known as "key person insurance." "If something happens to that individual, there will be a significant impairment to the company," says Feldman. "You might need the capital from the policy to ensure a year's worth of profitability."
Providing immediate access to capital
Most life insurance policies are purchased in term periods of 10 years. Permanent or "whole life" policies offer protection at a fixed premium rate for the entire lifespan of the policyholder. Over time, these policies accumulate interest, which is known as "cash value." Business owners can make withdrawals from their policies' cash value components, which may be treated as loans and paid back with interest. The policyholder may also opt not to pay back the funds, which will result in a lower death benefit payment.
"For businesses that have lost lines of credit with a bank, permanent life insurance is a superb tool to build credit within the company," says Feldman. "Cash value life insurance can provide a significant buffer for severe economic times."
Regardless of how you decide to use life insurance to protect your business, it's important to reassess your insurance needs on a regular basis, says Feldman. "Business owners should sit down with their financial advisors at least once a year to assess what the business is worth," he suggests.
Along with considering the business's value, owners should also evaluate the company's debts and the amount of revenue each partner and key employee is responsible for producing. Work with a financial planner, a lawyer, and an accountant in addition to your insurance agent to make sure that you're creating a comprehensive plan that will serve your business well and protect it for future generations of ownership.
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