Keyman insurance, also known as key person insurance, is a type of life insurance used to protect businesses against financial loss if a key person dies or becomes unable to work due to a critical illness or disability.
Key people can be defined as any employee whose death or illness significantly impacts the business financially or operationally. This could include the owner, CEO, directors, other senior managers, key sales staff, technical experts, or other employees with specialized skills.
Keyman insurance pays out a lump sum to the business in the event of the death or critical illness of the key person. This money can then be used to replace the key person, hire new staff, or pay off debts.
Keyman insurance can be a valuable tool for protecting businesses of all sizes. It helps ensure the business can continue operating and prosper even when losing a key person.
Who is a key person?
A key person, also known as a key employee, is an employee who is essential to the success of a business. Key people can be defined as any employee whose death or illness significantly impacts the business financially or operationally. This could include the owner, CEO, directors, other senior managers, key sales staff, technical experts, or other employees with specialized skills.
Here are some examples of key people in different businesses:
- A small business with a single owner might consider the owner a key person.
- A technology company might consider its CEO, CTO, and CFO to be key people.
- A sales organization might consider its top salespeople to be key people.
- A law firm might consider its partners and senior associates key people.
- A manufacturing company might consider its plant manager and key engineers key people.
Ultimately, whether or not an employee is considered a key person depends on the specific business and its circumstances.
Benefits of Keyman Insurance -
Keyman insurance offers many benefits to businesses, including:
- Financial protection: In the event of the death or critical illness of a key person, keyman insurance can provide a financial payout to the business to help cover the costs of replacing the key person, hiring new staff, or paying off debts. This can prevent the business from experiencing financial hardship and may even prevent it from closing down.
- Business continuity: Keyman insurance can help ensure the business can continue operating and prosper even when losing a key person. This is because the financial payout from the insurance policy can be used to cover the costs of replacing the key person, retraining existing staff, or hiring new staff.
- Job security: Keyman insurance can help protect other employees’ jobs in the business. This is because the business is less likely to make redundancies if it has the financial resources to replace a key person.
- Investor confidence: Keyman insurance can help to maintain investor confidence in the business. This is because investors know the business is protected against financial loss if a key person dies or cannot work.
In addition to these benefits, keyman insurance can be tax-deductible for UK businesses. Businesses can reduce their corporation tax bill by taking out keyman insurance.
Keyman insurance is a valuable tool that can help businesses of all sizes protect themselves against the financial and operational risks of losing a key person.
How Keyman Insurance works in the UK:
Keyman insurance in the UK is a policy taken out by a business on the life or health of a key individual within the company. This insurance provides a financial payout to the business if the insured key person dies or suffers from a critical illness, helping the business cope with the financial consequences of losing a crucial employee. Here’s a step-by-step explanation of how keyman insurance works in the UK:
1- Identification of Key Employees: The business identifies individuals who are critical to the company’s success, possessing specialized skills, knowledge, experience, or relationships that are vital for its operations.
2- Policy Purchase: The business purchases a keyman insurance policy on the life or health of the identified key employee(s). The coverage amount is determined based on the potential financial loss the company could face if the key person cannot contribute due to death or critical illness.
3- Premium Payments: The business pays regular premiums to the insurance provider to keep the policy active. The premium amount is based on factors like the key person’s age, health, coverage amount, and the policy’s duration.
4- Policy Terms and Conditions: The policy includes terms and conditions specifying the events that trigger a claim payout, such as the death or critical illness of the insured key person. It also defines the payout amount and any waiting periods before a claim can be made.
5- Claim Event:
- If the insured key person dies during the policy term, the insurance policy pays out a lump sum to the business.
- In the case of critical illness coverage, if the key person is diagnosed with a critical illness as defined in the policy, a lump sum or regular payments are made to the business.
6- Usage of Payout:
- The received payout can be used by the business to
- Recruit and train a replacement for the key person.
- Compensate for lost profits or revenue resulting from the key person’s absence.
- Repay loans or debts that were guaranteed by the key person.
- Provide a buffer during a transitional period to ensure the business remains operational.
7- Tax Implications:
- Premiums for keyman insurance are generally not tax-deductible as a business expense in the UK.
- The payout is typically received tax-free if it meets specific criteria set by HM Revenue & Customs (HMRC), which typically include that the policy complies with certain regulations and is used for business purposes.
Businesses should work closely with insurance advisors or brokers to design a keyman insurance policy that suits their needs, ensuring adequate financial protection in the event of the loss of a key person.
Who can take out key person insurance?
Key person insurance can be taken out by either the business or the key person individually.
If the business takes out the policy, it will be the owner and beneficiary of the policy. The business will receive the payout if the key person dies or becomes critically ill.
If the key person takes out the policy individually, they will be the policy owner and can choose the beneficiary. This could be the business, a family member, or a friend.
It is important to note that there are restrictions on who can take out key person insurance. For example, the key person must be an employee of the business and the business must have an insurable interest in the key person’s life. This means the business must suffer a financial loss if the key person dies or becomes critically ill.
Here are some of the factors that you will need to consider when choosing a key person insurance policy:
- The type of coverage you need: There are two main types of key person insurance coverage: death only and death and critical illness. Death only coverage will pay a lump sum if the key person dies. Death and critical illness coverage will pay a lump sum if the key person dies or becomes ill.
- The amount of coverage you need: The amount of coverage you need will depend on the financial impact that the loss of the key person would have on the business.
- The cost of coverage: The cost of coverage will vary depending on the age and health of the key person and the type and amount of coverage required.
What level of keyman insurance do I need?
The level of keyman insurance you need will depend on the financial impact of the loss of the key person on the business. This will include factors such as:
- The key person’s salary and benefits
- The key person’s contribution to the business’s profits
- The cost of replacing the key person
- The business’s financial reserves
It would help if you also considered the key person’s age and health and the industry in which the business operates. Businesses in high-risk industries need to have a higher level of keyman insurance in place.
A good rule of thumb is to purchase keyman insurance for a multiple of the key person’s salary and benefits. For example, if the key person’s salary and benefits are £100,000 per year, you may want to purchase keyman insurance for £500,000 or more.
However, it is important to note that this is just a general guideline. The best way to determine the right level of keyman insurance for your business is to speak to a qualified financial advisor. They can help you assess your needs and develop a keyman insurance plan that is right for your business.
Is keyman insurance tax deductible?
Yes, keyman insurance is tax deductible in the UK. This is because it is considered a business expense. The premiums paid for keyman insurance can be offset against the company’s profits, reducing the corporation tax the company has to pay.
To be tax deductible, the keyman insurance policy must meet the following conditions:
- The key person must be an employee of the business.
- The business must have an insurable interest in the key person’s life. This means that the business must suffer a financial loss if the key person dies or becomes critically ill.
- The policy must be taken out for a commercial purpose. This means that the policy cannot be taken out for the benefit of the key person or their family.
If the keyman insurance policy meets these conditions, the company can claim a tax deduction for the premiums paid. The company must keep records of the keyman insurance policy and the premiums paid to support its tax claim.
Final Note:
If you are considering taking out key person insurance, speaking to a qualified financial advisor is important to get advice on the best policy for your needs.
