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Key Man Insurance

Do You Really Need Key Person Disability Insurance?

Alex Grammatic
Alex Grammatic / 3 Min Read

Key person insurance is an investment that provides a crucial safety net for many businesses — both large and small. But, like any investment, it makes sense to first identify if you have a need for it.

As a refresher, key person insurance is a life and disability insurance policy that a company may take out on essential personnel. Specifically, we’ll look at the benefits of key person disability insurance and explain why businesses may require it in the first place. 

Assessing Key Personnel

All successful businesses have capable, dedicated employees. Yet, there’s a significant difference between a good team member and a good candidate for key person insurance. Technically speaking, anyone at a business can be designated as a key person, but it’s important that businesses only select individuals who are integral to the continued success of the company. A key person should be someone who is responsible for generating a large portion of the company’s revenue, or someone who has skills, contacts, or knowledge that would be difficult/costly to replace. 

Generally speaking, companies tend to select CEOs, executives, or top sales professionals as key persons. Note, a business may take out more than one key person insurance policy at a time. 

 A key person should be someone who is responsible for generating a large portion of the company’s revenue, or someone who has skills, contacts, or knowledge that would be difficult/costly to replace. 

Key Person Disability Insurance

Businesses act as the beneficiaries of key person insurance policies. As such, if a key person were to die or become disabled, the business would receive compensation in accordance with their policy. (You can use our free calculator to determine how much key person insurance coverage you may need.) In terms of disability insurance, key person insurance policies are typically designed to cover long-term disability claims. 

Short-term disability policies cover illnesses or conditions that are temporary. An example of a short-term disability might be minor injuries sustained from a car accident, or habitual back pain that requires a few weeks of recovery time. Long-term disability policies address longer-lasting issues like cancer, paralysis, or certain mental conditions. (Short and long-term disability policies may vary slightly from business to business.)

Key Person Insurance Payouts

The major benefit of this insurance policy is that it allows businesses to maintain operations despite the loss of a key person — regardless of whether that loss is just a few months or on a permanent basis. 

Key person insurance payouts function in two main ways.

First, key person insurance payouts cover costs associated with the absence of a key team member. This includes:  

  • The cost of hiring temporary employees.
  • The cost of recruiting, hiring, and training full-time replacements.
  • The loss of revenue and/or costs from loss in operational efficiency.

Secondly, key person insurance payouts can also be designed to cover specific expenses such as:

  • Overhead costs of the business.
  • Paying the monthly obligations on business loans.
  • Meeting contractual obligations 
  • Buying out shares of a disabled owner.

On a larger scale, businesses may also receive compensation for lost opportunities to grow as a result of a key person’s absence.  

Securing Key Person Insurance

Key person insurance is a vital aspect of any business continuity or succession plan. The first step is always evaluating the potential risks your company is exposed to from the loss of key people. From there, you need to evaluate how to best mitigate that risk based off of the short and long-term goals of both the company and the owner(s). It is critical that this evaluation takes into account the intricacies of the organization’s structure and financials as well as the specific underwriting considerations for the people you are trying to insure. 

At Blue Herring, we can offer the support and services businesses need to plan for the future with confidence. We’re a fully independent organization, and we’ll work with you to find solutions to your specific needs. Contact us here to get started. 

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations.

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