Key Person Insurance
9/15/2003
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Key person insurance is a vital portion of sound business planning.
Here is the classical statement regarding the insurance made by a US Court of Appeals in a tax case in 1951: “What corporate purpose could be more essential than key [person] insurance? The business that insures its buildings and machinery and automobiles from every possible hazard can hardly be expected to exercise less care in protecting itself against the loss of two of its most vital assets – managerial skill and experience”.
Most businesses need to have such a protection from the financial losses when its key person dies. Such a key person can be the owner, a partner, or a talented employee who possesses special skills and abilities that are critical to the business’ operation. The “9.11” tragedy has made many businesses, big or small, to reevaluate their risk management programs.
Needless to say, it’s impossible for a business to have an identical replacement of its key person when he or she dies. But the insurance proceed will at least provide financial cushion at a critical point for the business.
A key person insurance actually serves multiple purposes. It can help make up lost profit, recruit qualified replacement, offset falling business value, protect credit position, and fund business stock/interest purchase agreement.
(It’s somewhat amusing to recall that when the news came out that the aging Mr. Harmer, the rare westerner willing to do business with the Soviet Union during the cold war era, fell in his home, his company’s stock price jumped – as the company’s financials showed a large life insurance on him).
Key person insurance is purchased by the business while the insured is the individual. In terms of income taxes, the insurance premiums are not deductible, but the proceed paid out by the insurance company generally is not taxable, either (Some C-corporations do have to watch out AMT).
If you were not aware of this business planning tool before, now it's time to evaluate if your business has such a need. And you want to find out more about proper ways to protect your business? Feel free to contact us for a 30-minitures free consulting.
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