Life Insurance Strategies for Small Business

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Building a business is challenging, but keeping that business going after you’re gone is another challenge. So, clear succession plans for a small business are vital. But funding these plans is just as important.

Life insurance can be used to fund succession strategies for small businesses. It’s a way of protecting both the company and its heirs. But how does life insurance work for small businesses?

Business Owners Need Life Insurance

This isn’t about a big payday; it’s about financially protecting your business and loved ones. A business owner’s death is disruptive. Life insurance can be used to keep the business afloat until the dust settles.

Debts can be paid off, and cash flow can be supplemented until a replacement is found to run the company.

Besides your heirs using the funds after your death, you could use the life insurance policy while still living. If your policy has a cash value component, you can use some funds for tax-free business growth. Check with a financial advisor to determine the best course.

Using Business Owners Life Insurance

A life insurance policy’s primary purpose is to provide financial protection for a business if the owner dies.

A beneficiary or beneficiaries can use the death benefit to support the family, pay off debts, or even keep the business running.

There are different types of business owner life insurance policies. Each has a unique function.

Keyman Life Insurance

One or two people are usually the face or “doers” in the company. Things happen, and work is done because of them. They may have an expertise that is unique, or they may just have the right management skills to run the company. Their connections might be funding the company’s sales. The result is these people are vital to the business’s success.

It could be catastrophic if one of them died while working for the business. That’s where “keyman” insurance comes into play. Keyman insurance is also known as business life insurance.

The business usually purchases keyman policies. The business is also the beneficiary in the event of an essential person’s death.

A business can use the benefits to fund itself while it reorganizes. The funds can also be used to train and compensate the decedent’s replacement.

Ask yourself if your businesses would be set back or harmed if you or another individual passed. If the answer is yes, it might be time to discuss options with a financial advisor or insurance agent.

Buy-Sell Agreement

You should consider a buy-sell agreement if there are business partners (even family). This agreement is a legally binding contract between business owners. It dictates what will happen if an owner passes, becomes disabled, or wants to sell their interest.

In the event of death, two types of agreements use a life insurance policy to fund the buyout of the deceased partner.

The first type of buy-sell agreement is a cross-purchase buy-sell agreement, which uses life insurance. In this scenario, each business owner buys a life insurance policy for the other owners. Then, when the death benefit is paid to the surviving owner, that owner can use it to buy out the deceased owner’s interest.

The second type is the entity purchase buy-sell agreement. In this case, the business buys the life insurance policy for each owner. The death benefit is paid to the business and then the business buys out the deceased owner’s interests. This is often used when there are numerous partners. The interest or shares purchased can then be redistributed to the remaining partners.

Personal Life Insurance

Thus type of insurance is used to protect your family and cover any personal debts that you have accumulated. You'll need to designate not only an heir or heirs but also a contingency heir in case your first choice precedes you in death.

Determine How Much Life Insurance Is Needed

Your business is constantly evolving and growing. That means your life insurance coverages must adapt to these fluctuations. The goal of the insurance is to make sure your company runs smoothly and that your heirs are protected. You don’t want to set and forget your business life insurance values.

The two types of life insurance are term life and permanent life. Term life is in effect for a specific timeframe. So, term life may be a less expensive way to purchase keyman insurance. But a buy-sell agreement will probably need permanent life insurance.

How much insurance should you purchase for a buy-sell agreement? That depends on the fair market value of your business. And since fair market value fluctuates yearly, it will need to be evaluated annually and adjusted.

When determining policy limits on other life insurance types, you’ll need to consider your business’s size, overhead costs, financial stability, personal financial stability, and number of employees.

Growing and Protecting a Small Business

Starting and growing your business is not enough; you must protect it. If you want your company to outlive you, plan to fund its succession. Speak to a financial advisor or an insurance agent and determine the best way to protect your business and family.

The Epoch Times Copyright © 2022 The views and opinions expressed are those of the authors. They are meant for general informational purposes only and should not be construed or interpreted as a recommendation or solicitation. The Epoch Times does not provide investment, tax, legal, financial planning, estate planning, or any other personal finance advice. The Epoch Times holds no liability for the accuracy or timeliness of the information provided.