How Does Key Man Insurance Work?
Key man insurance, also known as key person insurance, is a life insurance policy taken out by a business on the life of a key employee or leader within the company.
Here’s how it works:
Identifying the Key Person: The business identifies a key individual whose contributions are critical to the company’s success. This person is typically an owner, founder, executive, or employee with specialised skills or a unique role that is difficult to replace.
Purchase of the Policy: The business purchases a life insurance policy on the key person’s life. The company pays the premiums for the policy.
Policy Ownership: The business is both the policy owner and beneficiary. This means that the company pays the premiums and, in the event of the key person’s death, receives the insurance payout. This means the premiums can be tax deductible.
Determining Cover Amount: The business decides on the cover amount based on factors such as the key person’s contribution to the company, the financial impact of their loss, and any outstanding debts or obligations the company may have. Use our key man insurance calculator to work out how much cover you might need.
Premium Payments: The company pays regular premiums to keep the policy in force. The premium amount is determined by factors like the key person’s age, health, and the coverage amount.
Death or Disability of the Key Person: If the key person covered by the policy passes away or becomes critically ill, the insurance company pays out a lump sum of money to the company.
Use of Proceeds: The proceeds from the insurance policy can be used by the business for various purposes, such as:
- Covering the costs of finding and hiring a replacement for the key person.
- Offsetting the loss of revenue or profits resulting from the key person’s absence.
- Paying off outstanding debts or loans associated with the key person.
- Providing financial stability during a challenging transition period.
Policy Term: Key man insurance policies typically have a specific term, which can be short-term or long-term, depending on the business’s needs. The policy remains in force as long as the premiums are paid.
Tax Considerations: In many jurisdictions, the premium payments for key man insurance are not tax-deductible expenses, and the death benefit may be subject to taxation. It’s essential to consult with a tax advisor to understand the tax implications in your specific location. You can read more about the taxation of key man insurance here.
Making a claim on a key man insurance policy
Making a claim on a key man insurance policy involves several steps to ensure a smooth and successful process. Here’s a general outline of what you should do when making a claim:
Notify the Insurance Company: As soon as the insured key person passes away or becomes disabled, notify the insurance company promptly. Insurance companies typically have specific contact information for claims, which can usually be found in the policy documents or on their website.
Complete Claim Forms: The insurance company will provide you with claim forms to complete. These forms may require details about the key person’s death or disability, including dates, circumstances, and medical information if applicable.
Submit Supporting Documentation: Along with the claim forms, you will likely need to provide supporting documentation, which may include:
- A death certificate (in the case of a death claim).
- Medical records or proof of disability (for disability claims).
- Any other documents specified by the insurance company.
Cooperate with the Insurance Company: Be prepared to cooperate fully with the insurance company’s investigation, which may include interviews, additional documentation requests, or medical examinations, depending on the circumstances of the claim.
Wait for Claim Approval: The insurance company will review the submitted information and documentation to determine if the claim is valid. This process can take some time, so be patient. You may receive periodic updates on the status of your claim.
Receive the Payout: If the claim is approved, the insurance company will issue a payout to the beneficiary or the business, as specified in the policy. The amount of the payout will be based on the coverage amount specified in the policy.
Use the Proceeds: The funds received from the insurance payout can be used by the business for various purposes, such as covering the costs of finding and training a replacement, paying off debts, or maintaining financial stability during the transition period.
Consult with Professionals: It’s advisable to consult with legal and financial professionals, including tax advisors, to ensure that the funds are used effectively and in compliance with any legal or tax requirements.
Maintain Records: Keep detailed records of all communications and transactions related to the claim. This documentation may be necessary for tax purposes or in case of any disputes.
Review and Update: After successfully making a claim, review your insurance coverage periodically to ensure that it continues to meet your business’s needs, especially if there are changes in key personnel or the company’s financial situation.
Remember that the specific process for making a claim may vary depending on the insurance company and the terms of your policy. It’s essential to thoroughly read and understand your key man insurance policy to ensure a smooth claims process in the event it becomes necessary. Consulting with an insurance professional can also be helpful in navigating the claims process effectively.