By 360 Financial, Big Picture Planning and Wealth Management
Why Business Owners Need Life Insurance
Life insurance is essential for providing financial security to loved ones in the event of an unexpected death.
But did you know that as a business owner, you can also use life insurance to protect your business?
In this post, we'll explore the importance of life insurance for business owners and entrepreneurs, helping you understand the basics and how it can safeguard both your family and your business.
Remember, while this post provides valuable information, working with a knowledgeable insurance professional is crucial for finding the right coverage in a clear and transparent manner.
Table of Contents
Key Reasons to Consider Life Insurance as a Business Owner
As a business owner, there are several key reasons to consider life insurance:
Protect Your Family: Ensure your loved ones remain financially stable if something happens to you.
Secure Your Business: Life insurance can provide financial support for your business in the event of your death.
Access to Loans: A life insurance policy can help you secure loans from banks and lenders.
Employee Benefits: Offering life insurance can attract and retain top talent.
Business Continuity: Safeguard your company against the loss of a key employee.
Supplement Cash Flow: Life insurance can help improve your business’s cash flow.
Fund Partnership Agreements: In case a partner passes away, life insurance can fund a buyout agreement.
Types of Life Insurance for Business Owners
Typically, there are three types of life insurance available for business owners—personal life insurance, key person life insurance, and buy-sell agreements.
1. A personal life insurance policy is there to take care of your family and settle any personal debts you may have in the event of your death.
2. Key person life insurance safeguards you and your company in the event of an employee’s death who had a role critical to the company. Key person life insurance can cover share buybacks, the cost of hiring a new employee, and other business needs.
3. A buy-sell agreement is important if you have business partners. A buy-sell agreement is a legally binding contract that stipulates what will happen to the business if a partner dies or wants to sell. With a buy-sell agreement, there is a contract for the future sale of a business interest between both parties. This agreement is often funded by life insurance to provide liquidity and minimize disruption.
Term vs. Permanent Life Insurance
There are two main types of life insurance: term life insurance and permanent life insurance.
Term life insurance only covers you for a set amount of time such as 10 or 20 years. It's a great option for small business owners who may need coverage for a specific period, such as during the term of a loan.
Permanent life: Unlike term insurance, permanent life insurance covers you for your entire life and builds cash value over time. It’s more expensive but may be a good option for those concerned about long-term business succession or family financial security.
Consulting an insurance professional and a financial advisor will help you determine the best option for your needs.
Life Insurance for Succession Planning
Life insurance plays a critical role in business succession planning. It can:
Smooth the transition of ownership between business partners.
Provide funds to cover buy-sell agreements, estate taxes, and other transition costs.
Create fairness for heirs, especially if some children are involved in the business and others are not.
Funding Buy-Sell Agreements
If you have one or more business partners, consider a buy-sell agreement.
Also called a business prenup or a buyout agreement, buy-sell agreements specify how a partner’s share of the business will be transferred in the event of their departure, retirement or death.
A common buy-sell agreement is a cross-purchase purchase agreement. With a cross-purchase agreement, you and other remaining owners can buy the interests of an owner who dies, becomes incapacitated, or wishes to retire.
Executive Bonus Plans and Life Insurance
An executive bonus plan is a tax-efficient strategy that benefits both business owners and employees.
It allows business owners to offer life insurance to key employees, which can help with retention and reward top talent. The business pays the premiums, and the employee receives life insurance benefits. In some cases, employees can also access the cash value of the policy during their lifetime.
Key Employee Insurance
If your business depends on key employees, a key person insurance policy can help mitigate the financial impact if they pass away.
This policy provides your business with a cash benefit to cover things like lost revenue, recruitment costs, and operational disruptions.
Accessing Cash Value in Your Policy
With permanent life insurance, you can build cash value that may be accessed during your lifetime.
This can be used for business needs, such as paying off loans or keeping your business afloat.
Some options for accessing the cash value include:
Selling the policy to a third party.
Using the policy’s cash value to cover premiums.
Taking out a life insurance loan.
Surrendering the policy for its cash value.
A financial advisor can help guide you on how to use the cash value of your policy to support your business.
How Much Life Insurance Do Business Owners Need?
The amount of life insurance a business owner needs depends on the goals for both personal and business coverage.
For family protection, a policy of several times your annual income may be adequate to cover expenses and debts.
For business coverage, the amount will depend on factors like:
Business expenses (e.g., rent, loans, utilities).
Costs to recruit and train new employees.
Buyout costs for shares if a partner passes away.
Tax Implications of Life Insurance for Business Owners
Tax Implications of Life Insurance for Business Owners
Life insurance can have significant tax implications for both your business and beneficiaries:
Business Taxes: Premiums for certain types of life insurance, like key person insurance, are usually not tax-deductible, but the death benefit is typically tax-free.
Beneficiary Taxes: Death benefits are generally tax-free, but if the policy has a cash value component, accessing that cash may trigger taxes on gains.
Consulting a tax advisor is essential to ensure you’re maximizing the benefits of your life insurance policy.
Reviewing and Updating Your Life Insurance Policy
Business owners should regularly review their life insurance policies to ensure they align with evolving business needs and personal circumstances.
Major changes, like business growth, taking on new partners, or changes in family structure, can affect the adequacy of your coverage. A review every 1-3 years, or after significant life events, can help ensure your policy provides the necessary protection.
Revisiting your policy lets you stay updated on new insurance strategies that may offer better benefits or features suited to your current situation and ensure you have the right insurance products for your needs.
Common Questions
Should a small business owner have a life insurance policy?
Yes, life insurance is essential for small business owners.
It can take care of your family, cover business debts, and help with a smooth succession in case of your death. It can also secure loans and fund buy-sell agreements, making it a vital part of financial planning for personal and business needs.
Should my business partner have a life insurance policy?
Yes, having a life insurance policy for your business partner is crucial.
It can ensure funds are available for a buyout in case of their death, preventing ownership disputes and financial strain on the business. It also safeguards the company’s continuity and stability during unforeseen events.
How do I choose the right type of life insurance for my small business?
Choose life insurance based on your goals.
For example, term insurance may be beneficial for temporary needs like loan repayment. In contrast, permanent insurance may be better for lifelong coverage and cash value accumulation. Consider business risks and your family’s needs.
In addition, consult a financial advisor who can tailor a policy to your unique business and personal circumstances.
What is key person life insurance?
Key person life insurance may safeguard your business against financial loss if a critical employee or leader dies.
The business owns the policy, pays the premiums, and receives the death benefit to cover expenses like recruitment, revenue loss, or operational disruptions.
What is a buy-sell agreement?
A buy-sell agreement is a legal contract outlining how ownership shares in a business will be handled if an owner dies, retires, or leaves.
Life insurance often funds these agreements, providing cash to remaining partners to buy out the departing owner’s share smoothly.
What is a death benefit?
A death benefit is the money paid to beneficiaries upon the insured person’s death.
For life insurance, this amount is usually tax-free and can be used to cover expenses like business debts, personal mortgages, or the financial needs of surviving family members or business partners.
Can my LLC buy my life insurance?
Yes, your LLC can purchase life insurance.
You may wish to have your LLC purchase key person insurance or fund a buy-sell agreement. The LLC pays the premiums, and the business is the policy beneficiary. However, premiums are generally not tax-deductible, so consulting a tax advisor is recommended.
What type of insurance should a business owner have?
You should speak with an expert about your insurance needs.
However, business owners should generally have life insurance for family and business protection, liability insurance to guard against lawsuits, and property insurance for assets. Other useful types include disability insurance, health insurance for employees, and key person insurance for critical team members.
Does life insurance only cover unexpected death?
No, life insurance typically covers unexpected deaths as well as those from natural causes or illness - as long as premiums are paid.
However, some policies may exclude deaths from specific causes, such as risky activities not disclosed on your application.
How can I know if I’m getting the right life insurance policy?
To see that you’re getting the right policy, assess your business and personal financial needs, consider the policy's flexibility, and compare costs.
Work with a knowledgeable insurance agent or financial advisor to customize coverage for your unique situation and confirm it aligns with your goals.
Summary of Key Points
If you’re a business owner, life insurance can provide financial relief and benefits for your family, business partners, employees, and business. There are various types of life insurance you can take out—from term or permanent life insurance to others with policies that help to promote employee retention.
It can be tricky to navigate life insurance when juggling the needs of your family and business. Working with a financial advisor can help you pursue the best financial outcome.
Wealth Management for Business Owners
For business owners, life insurance is not only crucial for family protection but also plays a vital role in business continuity, succession planning, and employee benefits. Whether it’s securing loans, funding buy-sell agreements, or protecting your business from the loss of key employees, life insurance is a powerful tool in ensuring long-term financial stability.
Wealth Management for Business Owners
At 360 Financial, we help business owners focus on what matters most—their family and business—while we guide them through every step of the wealth management process. From safeguarding business assets, planning for retirement, business succession, and securing generational wealth. Take charge of your financial future today—contact us to discover how our wealth management services can help you achieve your goals.
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About 360 Financial
360 Financial is an independent wealth management firm with a team of specialized financial advisors and financial planners. As fiduciaries, 360 Financial’s advisors provide services to business owners, entrepreneurs, and professionals. We help investors with sudden wealth, retirement planning, tax planning, estate planning, and business financial planning.
Headquartered in Minnesota, we serve investors across the US with online and in-person wealth management and financial planning services.
This material contains only general descriptions and is not a solicitation to sell any insurance product or security, nor is it intended as any financial or tax advice. Guarantees are based on the claims paying ability of the issuing company. If you need more information or would like personal advice you should consult an insurance professional. You may also visit your state’s insurance department for more information.
