9 December 2013 0 Comments

When It’s Your Business …

you owe it to yourselfIf you own a business or are a self employed professional you should consider business life insurance.  The two most common uses of life insurance in a business are to fund a buy and sell agreement (22 Oct. 2013 blog) or as indemnification for the loss of a key employee.  When looking at these needs, how do you determine the correct amount of insurance?

The amount of life insurance used to fund an agreement between business/profession owners, or with their corporation to redeem stock at death should be tied to the legal agreement that the attorney has drawn to facilitate this transaction.  The attorney and accountant should arrive at the current valuation.  There will also likely be an appendix to the agreement that allows for re-evaluations in the future, plus a valuation formula in the event there has not been a timely update of this valuation appendix.

Any life insurance used to fund the purchase will be identified in the agreement with a stipulation that the proceeds be used for that purpose. At the time of death, if the amount of insurance is less than 100% of the purchase price, there will be a note established for the balance with a payment and interest schedule.  If the amount of insurance exceeds what is required to complete the transaction then the agreement should be drawn in such a way as to allow the beneficiary (business partner[s] or entity) to use those excess proceeds to indemnify themselves for the financial loss likely to be suffered due to the loss of a person.

And that leads right into the next use of life insurance in a business environment:  Key Employee Life Insurance.  Usually the success of small businesses is dependent upon the talents, experience and energy of one or more key employee.  That employee may or may not be an owner.  This loss is not easy to determine.  Many factors go into the equation including potential loss of key accounts, loss of intellectual acumen and cost of attracting and grooming a replacement.  Whatever amount is selected must be justified to the insurance company before they will issue the policy, so the agent should provide the company with a narrative of how the lost value has been determined.

The owner and beneficiary of key employee life insurance is the surviving owner(s) or the business.  If the business owns the policy it is important to follow procedures outlined in my Aug. 2, 2013 issue to avoid adverse tax consequences.

Many small businesses do not survive the death of a key employee or owner.  Having adequate life insurance can make the difference.

Coming up…my thought on seeing the movie, Nebraska.

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