Keyman Insurance For Business Owners

Protect your business from the potentially devastating financial consequeneces of a key director or employee dying or becoming unable to work through illness

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Graham Cox
CeMAP Mortgage & CPSP Specialist Finance Advisor

In business, it's always good practice to minimize the downside risks.

To that end, a shrewd entrepreneur will want to consider the what-if or worst-case scenarios and try to mitigate against them.

One of the biggest financial risks, particularly for start-ups or businesses with a small number of employees, is if a key man or woman either dies unexpectedly or is unable to continue working due to a terminal or critical illness?

For example, would sales revenue and profitability fall steeply?  

Could the company still service its debts?

Would the business even be able to continue trading?

If the answer to any of the above questions is No, then keyman insurance might be just the ticket.  Continue on to find out more...

What is keyman insurance?

Keyman Insurance is a small business policy whose purpose is to protect a company from financial disruption or failure.

It pays a lump sum benefit if, during the policy term, a key man or key woman employee dies or becomes terminally ill with less than 12 months to live. Critical illness cover can also be added to the policy at extra cost.

Sometimes referred to as key person insurance, it's particularly useful for small businesses where the loss of a particular employee could have a disproportionately adverse effect. For example, the passing of a Managing Director or Sales Manager.

Avoiding business failure due to the loss of a key employee

In fact, according to research by Legal & General, 59% of businesses thought they'd be unable to continue trading within a year of a key employee dying or becoming critically ill.

When a valid claim is made, Keyman Insurance pays the business a pre-defined lump sum benefit to offset potential financial damage or losses caused by their employee's death.

Note also that, unlike Relevant Life Insurance, keyman cover is intended to benefit the business, not the employee's family.

What does keyman insurance cover?

As standard, a keyman insurance policy pays out if the person insured:

  • passes away or...
  • receives a medical diagnosis of a terminal illness with less than 12 months to live.

Adding critical illness cover to keyman insurance

For an additional premium, Critical illness cover (aka CIC) can be added to the policy. CIC covers many different illnesses, typically including but not limited to:

  • Cancer
  • Stroke
  • Heart attack
  • Parkinson's disease
  • Alzheimer's
  • Multiple Sclerosis
  • Organ transplant
  • Loss of one or more limbs.

You should always check the policy document for the illnesses and conditions covered, as it varies between insurers.

Total and permanent disability

For a small premium increase, there's also the option to add Total and Permanent disability to a critical illness cover plan.

The benefit amount for critical illness coverage can either be set at the same amount as the key man insurance cover or a lower figure.

Book a call back and save your most valuable business asset...time.

"Brilliant from start to finish. Graham managed to find a main high street lender who offered a brilliant rate. Would highly recommend."

Tracy Boyle - Google Business Review
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Who is eligible for key person Insurance?

Determining who is a key person is the responsibility of the business owners or company directors.

It could be any employee whose loss would have a significant impact on the company's profits or ability to operate.

For example, it could be an employee with particular skills, knowledge, experience, financial acumen, or business contacts whose loss would negatively impact the employer.

What's the definition of a Key Person?

There's no fixed definition of a key person. Just how important an employee is to a business' success is something only the owners can evaluate.

Ultimately, they must decide which employees they'd like to insure.

The question to ask is this...

Would the employee's passing away be likely to cause one or more of the following outcomes:

  • a significant downturn in profits
  • loss of investor confidence. Eg, would it affect the businesses' ability to raise finance? Or cause problems with existing loans?
  • loss of suppliers or less favourable supplier terms
  • loss of customer confidence
  • damage to the company brand
  • loss of business contacts
  • difficulty and/or significant expense in hiring and training a replacement for the role.

If the answer to any of the above is Yes, the business owners should consider taking out a Key Man policy on the employee.

How does keyman insurance work?

As key person insurance is business cover on the life of the person insured, the policy premium is paid for by the company. In the event of a valid claim, the business receives the lump sum benefit from the insurance company.

Key person insurance works like this:

  1. The Business takes out keyman insurance for an employee.
  2. The employees life is covered, including for a diagnosis of terminal illness with less than 12 months to live. Critical illness cover is included if bolted on to the policy at extra cost.
  3. If the key individual sadly passes away or receives a terminal illness diagnosis during the policy term, the employer puts in it's claim with the insurer.
  4. The insurer verifies the claim and the lump sum benefit is issued.
  5. The employer uses the money to either replace lost profits, recruit a replacement employee or pay off a business loan.
  6. As the policy can only be claimed once, the cover ends at this point and no further premiums are due.

What financial losses can keyman insurance cover?

Keyman insurance can be used to cover the loss or expense of a variety of business cases including:

  • To offset the expected decrease in business profits
  • Repaying business loans and overdraft facilities
  • Paying off commercial mortgage loans
  • Hiring and retraining a direct staff replacement
  • Mitigating the adverse business effects of a loss of investor or supplier confidence

When should you consider keyman insurance?

Keyman insurance should be used by SMEs to safeguard their business interests.

It's worth considering as soon as the business believes it could suffer financially if an important staff member were to die, become terminally ill, or suffer a critical illness or injury (if added to the policy).

Deciding how irreplaceable that key person is, and the amount of cover required to compensate the business, is entirely up to you.

Book a call back and save your most valuable business asset...time.

"Brilliant from start to finish. Graham managed to find a main high street lender who offered a brilliant rate. Would highly recommend."

Tracy Boyle - Google Business Review
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Book a call back at time to suit you.
Schedule a call in 90 seconds.

How much cover should my business get?

How much keyman insurance your business needs is largely contingent on the employee's worth to the business.

Whilst not an exact science, a good first step is to try and identify the proportion of company net profit the employee is responsible for.

Then assess how many years it will take your company to reinstate the lost profits. From that apply a suitable multiple to arrive at the amount of cover you need.

For example, if your estimated profit decrease is £75,000 per annum, and you anticipate it taking three years to replace, cover of £225000 maybe suitable.

Of course, that doesn't factor in:

  • any future growth you miss out on through the loss of the employee
  • the potential for the lump sum to be taxed by HMRC (see below)

So you may want to consider a higher amount if your company budget permits.

How is key person cover insurance taxed by HMRC?

The taxation rules around key person insurance are complex as it depends who will untimately receive the benefits. So you should seek independent tax advice if you're concerned about the financial implications. But here's a brief overview:

Is keyman insurance tax deductible?

If the person insured is a company shareholder/director, HMRC consider the payout is principally designed to protect the value of his or her estate.

In such circumstances, because the insurance is not wholly and exclusively for the benefit of the business, the monthly premiums aren't an allowable business expense and don't qualify for corporation tax relief.

Paying corporation tax on the benefit

To add salt to the wound, HMRC will also treat the lump sum payout as a trading receipt, which means you'll pay corporation tax on it.

You may therefore want to increase the cover amount to ensure the net, post-tax benefit sum is adequate.

Tax treatment where the key employee is not a director or shareholder

If the key person insurance is taken out on a key employee who isn't a company director/shareholder , the monthly premium cost is tax-deductible.

However, the benefit lump sum is still treated as business income, so take this into account when choosing the level of cover.

How much does keyman insurance cost?

In most cases, keyman insurance premiums are guaranteed, so won't change during the lifetime of the policy.

Some insurers offer reviewable premiums.  Typically reviewed every five years, they're often cheaper than guaranteed premiums at the start, but can work out more expensive over the duration of the policy term.

As guaranteed premiums offer peace of mind as well, they tend to be more popular.

Getting a keyman insurance quote

SEMH have access to all the leading keyman insurance providers, including Aviva, AIG, Aegon, LV=, Royal London and Legal and General.

To get a competitive quote for Key Person Protection or any other business insurance policy, please get in touch by completing our simple form here.

You can also speak to an adviser directly on 0117 205 0655. We can answer any questions you have, provide expert advice, and produce a same-day quote tailored to your circumstances.