Key Person Life Insurance
Key Person Life Insurance is purchased by the Business, insuring the lives of top Employees, and payable to the Business in case that key Employee dies. Insurance carriers will approve policies sometimes up to ten times the overall compensation to the Employee. The Business is wise to get proper documents signed by the Employee at the time of application acknowledging the purchase, and granting the Business the right to maintain the policy until the death of the Employee, even if that Employee terminates employment prior to death.
If the sole reason for the Key Person Life Insurance in indemnification to the Business for lost services and the cost of replacement of that Employee, then Businesses may buy term insurance, depending on how long the exposure to risk for the Business. However, many Key Person Life Insurance policies are purchased for their tax-sheltered cash build-up and potential to use safe leverage -specifically using Indexed Universal Life (IUL). They find these policies are a way of getting more of a return on minimum operating capital as compared to putting those funds in a bank. For a Business that pays income tax, funds grow income-tax free, and the death benefits down the road are also income-tax free to the Business. Non-profits and Credit Unions enjoy other tax benefits from Key Person Life Insurance, since they can leverage much larger premiums via policy loans that would otherwise be taxable distributions for for-profit Businesses.
The biggest single use of large amounts of Key Person Life Insurance is in the area of Key Employee Retention, such as informally funding 409(a) or 457(f) plans. Such plans can be powerful deterrents to the possibility of losing key people to competitors.