Last month was life insurance awareness month. And while we published several articles on this important coverage, there was one topic we just didn’t get to – Key Person Life Insurance.
What is Key Person Life Insurance?
If you’re a business professional, you may have heard of this type of life insurance policy. This product is often purchased by non-profit organizations, banks and financial institutions, colleges and universities, and other entities with an employee, executive or owner who would be difficult to replace or cause a financial burden in the event of their passing.
If you have an employee that is indispensable to the operation and success of your business, you should consider getting a Key Person Life Insurance policy in place.
To get you started on that quest, I’ve written this article to answer the following questions:
- What is Key Person Life Insurance?
- How do you determine the benefit amount of a Key Person Life Insurance policy?
- How much does a Key Person Life Insurance policy cost?
What is Key Person Life Insurance?
A Key Person Life Insurance policy is a life insurance policy on a specific individual purchased by a business with the business listed as the beneficiary.
This policy is intended to protect the business if a “key employee” passes away.
The “key employee” might be the president or CEO, the Executive Director, a critically important operations employee, a key salesperson, or another critically important employee of a business or organization.
How can a business determine if an employee is a “key person?”
A “key person” can be identified by how difficult they would be to replace. Suppose an employee has knowledge that can not easily be replaced or holds important relationships with significant clients or donors. In that case, they are likely a “Key Person” for your business.
One sure test for determining if an employee is a “key person” is considering how much it would cost to hire a replacement for this individual.
Would your business need to utilize a headhunting company to search for a replacement? Would it be expensive to hire someone to replace the individual?
Another sure test is determining if your business would face revenue loss if the employee was no longer at your company.
Would your business likely lose significant revenue if this individual were to die unexpectedly? Would your company lose critical clients or donors? Does this individual hold essential relationships that impact your business’s revenue?
| Your organization should consider purchasing a Key Person Life Insurance policy if you have a key employee or employees that would be hard to replace. You also need this type of policy if your business would lose revenue or critical clients due to an employee’s untimely death. |
How does a business determine the benefit amount of a Key Person Life Insurance policy?
A simple rule of thumb is setting the benefit amount at five to ten times the annual salary of the individual named on the policy (with five to seven times being the most common).
Another rule of thumb can be five to ten times the potential revenue lost.
Lastly, for owners, you can use the valuation of stock or ownership to fund a buy-sell agreement to calculate the death benefit amount.
How would your organization use the death benefit?
Your business may need the benefit amount to cover:
- Potential revenue loss from critical clients
- Additional salary or salaries if multiple hires are required to hire a replacement
- Costs of a headhunting firm to find potential candidates
- Training costs to onboard a replacement
- Costs to fund a buy-sell agreement if the business has co-owners
- Sometimes Employers will add an extra amount for the family of the key person
The reality is that you need to determine the actual financial risk of losing that key individual. What would it cost to recover from their abrupt absence?
| Your organization needs to look at several factors to determine the benefit amount of your key person life insurance policy. Factors like revenue loss, cost to replace the key person, and funding a buy-sell agreement need to be considered. |
How much does a Key Life Insurance Policy cost?
Like all insurance policies, many variables affect the cost of a Key Person Life Insurance policy. These variables include:
Age
Age is a key factor insurance companies use to determine the premium amount of a life insurance policy. This is no different with a Key Person Life Insurance policy. If the individual listed on the policy is younger, the premium amount will be lower than an older individual.
Gender
Life insurance premium for a woman is slightly lower than the premium for a man.
Smoker status
Suppose the individual being insured on the policy is a smoker. In that case, the premium rates will be significantly higher than a non-smoker. I should note that some insurance companies distinguish between a smoker and a smokeless tobacco user.
Health status
Key Person Life Insurance is medically underwritten. That means the insurance company uses the health status and family medical history of the “key person” to determine a premium amount. The “key person” will likely need to submit to medical testing like blood work or urinalysis. They will also need to disclose their medical history and list any medications they currently use.
| $1,000,000 Key Life Insurance Policy for a 45-Year-Old Male | ||
| Healthy | Non-smoker | $550-$650 per year |
| Fairly to Moderately Healthy | Non-smoker | $925 to $1250 per year |
| Fairly Healthy | Smoker | $3800 to $4300 per year |
| Average Healthy | Tobacco User | $2500 to $3900 per year |
| $1,000,000 Key Life Insurance Policy for a 45-Year-Old Female | ||
| Healthy | Non-smoker | $450 to $550 per year |
| Fairly to Moderately Healthy | Non-smoker | $745 to $930 per year |
| Fairly Healthy | Smoker | $2900 to $3400 per year |
| Average Healthy | Tobacco User | $2100 to $2700 per year |
Family medical history
The life insurance company will also inquire about any vital family medical history of the individual listed on the policy. This would include parents and siblings. The insurance company will ask about medical conditions like diabetes, heart disease, and cancer.
Other
In addition to the above factors, the life insurance company may consider other factors as well. International travel, for instance, may be considered when applying for life insurance. Job type, like piloting or racing, may also be a factor in determining the premium amount of a policy.
| The cost of a key person life insurance policy depends on various factors, including age, gender, smoker status, and health status. Additional factors like job type or international travel may also impact the premium amount. |
We need a Key Person Life Insurance policy for our organization or business. How do we get a policy in place?
If losing a “key employee” at your business could be the undoing of your business, getting a Key Person Life Insurance policy in place is critical. This policy will help ease the burden and stress if tragedy strikes your company.
To get a Key Person Life insurance policy in place, it’s best to start with an insurance agent specializing in life insurance.
This agent should help you determine the benefit amount you will need for your policy. It may take some digging to settle on the right amount for your company. The agent needs to help you with this.
For an owner looking to fund a buy-sell agreement, our agency partners with a resource that can help provide you with a simplified business valuation to have a general idea of what your business is worth and what amount of insurance you would need.
Beyond Key Person Life Insurance, your agent should also discuss the need for Key Person Disability. Just like an untimely death can be catastrophic for a business, an unexpected disability can cripple a business.
Your employees are one of your business’s greatest assets. Making sure you have protection in place for those employees is essential.
Any outstanding independent insurance agent will work with multiple insurance companies to provide you with the best options for your business. Your agent should direct you to the company that best lines up with your company’s desired outcomes. An outstanding agent knows which products would best suit your needs.
Working with Baily Insurance Agency
At Baily Insurance Agency, we’ve been helping businesses protect what matters most to them for over 140 years. We are truly partners with our clients, working on the same team to achieve their insurance goals.
As an independent agency, we only work with highly rated insurance companies. When working with our agency, our clients can confidently assert that their coverage is provided by the best companies in the insurance marketplace.
If your business is looking for an insurance partner to establish a comprehensive but cost-effective insurance program, our team of experts is eager to help you!
Our team is committed to developing a long-term strategy for our clients to manage their insurance costs and provide complete coverage.
We understand that working with a new insurance agent is a time-consuming venture. And before wasting your time only to find out our team is not the best fit for your business, we begin with a brief assessment. With our 15-minute introductory assessment, we can determine if we might be a good fit for partnering together.
Please fill out the form below if you’d like to get time on our calendar for that initial 15-minute meeting. Be sure to include what kind of insurance help you need and if you’d like us to reach out by phone or email.
Our team will get back to you within one business day.
We look forward to talking with you soon!
