Key Person Insurance: Protecting Your Business From the Loss of a Key Person
Charles de Gaulle once remarked, “The graveyards are full of indispensable men.”¹ Life goes on regardless of the loss of any “indispensable” person — but for a small business, losing a key person is more than a human tragedy. It can also mean significant financial loss.
Business owners can’t prevent the unexpected loss of a key employee. But with key person insurance, they can protect their business from the financial fallout of that loss.
What Is Key Person Insurance?
Key person insurance (sometimes called key employee insurance) is a policy that protects a business against the financial impact of losing someone critical to its success — whether due to death or disability.
How it works:
- The business typically owns the policy and pays the premiums.
- Premiums are generally non-deductible.
- If the insured key person dies or becomes disabled, the benefit is paid directly to the business.²
- Death and disability coverage are separate policies — a business may choose one or both.
Who Qualifies as a Key Person?
There’s no legal definition of a key person. In general, it’s anyone whose loss — due to death or disability — would create a material financial setback for the business.
Examples of a key person include:
- A top salesperson whose production would take significant time to replace
- Someone who personally guarantees the business’s access to future capital
- Any employee whose skills, relationships, or leadership are essential to ongoing operations
This makes key person insurance for small businesses especially important, since smaller companies often depend heavily on just one or two individuals.
How Much Does Key Person Insurance Cost?
Determining the right amount of key person insurance coverage involves two steps:
- Calculate the financial impact the business would face if it lost the key person.
- Get a cost estimate for that amount of coverage.
With both numbers in hand, a business owner can balance protection needs against what the business can reasonably afford. Key person insurance cost depends on several factors, including:
- The key person’s age and health
- The type and amount of insurance purchased
How Key Person Insurance Proceeds Can Be Used
Businesses can use the insurance proceeds however they see fit. Common uses include:
- Covering day-to-day operating expenses
- Paying off business debts
- Recruiting and training new talent to fill the gap
For most businesses, people — not buildings or equipment — are the most valuable asset. Yet many business owners insure their physical assets while overlooking the value of protecting the people most critical to their success. This applies to businesses of every size and industry, including those here in Florida, where many companies rely heavily on a small leadership team or a handful of key employees.
Frequently Asked Questions
What is key person insurance?
Key person insurance is a policy, typically owned by a business, that pays a benefit to the business if a critical employee dies or becomes disabled. It helps offset the financial impact of losing that person.
Who counts as a “key person” in a business?
There’s no official legal definition. A key person is generally anyone whose death or disability would cause significant financial harm to the business — such as a top salesperson or someone who secures the company’s access to capital.
Who owns and pays for key person life insurance?
The business usually owns the policy and pays the premiums. These premiums are generally non-deductible, and the death or disability benefit is paid to the business, not the employee’s family.
How much does key person insurance cost?
Cost depends on factors like the key person’s age, health, and the amount and type of coverage purchased. Business owners should first calculate the potential financial loss, then get a cost estimate for that coverage amount.
Why do small businesses need key person insurance?
Small businesses often rely heavily on just one or a few individuals for sales, client relationships, or access to capital. Key person insurance for small business owners helps protect against the financial disruption that could follow if one of those individuals were suddenly lost.
What can key person insurance proceeds be used for?
Proceeds can be used however the business decides — commonly to cover daily operating expenses, pay off debts, or recruit and train a replacement.
¹ Brainyquote, 2017
² Several factors affect the cost and availability of life insurance, including age, health, and the type and amount of insurance purchased. Life insurance policies carry expenses, including mortality and other charges. Surrendering a policy prematurely may result in surrender charges and income tax implications. Insurability should be confirmed before implementing any strategy involving life insurance. Any guarantees associated with a policy depend on the claims-paying ability of the issuing insurance company.
This content is developed from sources believed to provide accurate information and is intended for general informational purposes only. It is not tax or legal advice and should not be used to avoid federal tax penalties. Please consult a legal or tax professional regarding your individual situation. The opinions expressed are for general information only and should not be considered a solicitation for the purchase or sale of any security.
