On a scale of one to 10, how critical are you to the overall success of the company you work for? What would happen to the business if you were suddenly unable to work, possibly forever, due to an injury? Would the company survive, or would it perish? While you might not about think it often, for most profitable companies, it’s not just the owners who determine whether or not a business is successful. There are a variety of different roles and skillsets that are instrumental in ensuring that the day-to-day operations of a company are maintained.
“A key person is anyone who handles key accounts, generates new business for the company, or has a specialized technical skill, ability, or experience that is difficult to replace,” says Jane Trentini from Trentini Wusyk & Associates. As a managing partner for a professional estate and business succession planning organization, Trentini helps provide companies across Alberta with corporate insurance, including key person insurance.
However, what is key person insurance, and how do you know if that policy applies to your company? Brian Rose from HDF Insurance explains. “Key person insurance is a life insurance or disability insurance policy that is taken out by a company to cover an important employee. It cannot be taken out on a majority owner of a business. Usually, insurance companies will allow employees who have up to 20 per cent ownership to apply for coverage. Insurance coverage for business owners is structured differently because their needs are different. Policies for business owners are used to purchase the business shares of a deceased business partner or to reimburse the owner for the ongoing business expenses, should that business owner become disabled. Key person insurance is really for employees who play an integral part in the business. It provides the business with the funds needed to sustain itself given the loss of this employee. Typically, key person insurance premiums are not tax deductible. However, the benefit payout to the business is non-taxable.”
Citing Trentini, in most cases insuring a key person for one to three times their annual salary would be an appropriate amount, but it depends on the circumstances. “The first step in finding the cost of key person insurance for your company is determining the potential financial loss if something were to happen to him or her. If you are a medium-sized company and your key person is your head salesperson, the amount of life insurance needed is approximately $500,000. However, that is only assuming that the key person generates 450K in revenue, and the policy accounts for 50K to go towards the recruiting and training of a new key employee.”
A thriving corporation with three partners in the management group, headquarters in Edmonton, branches in other cities and an IT specialist that keeps everything going would have a very different policy. In this particular case, $100,000 of (Term 20) insurance would be sufficient to cover the costs of training a new team of IT specialists. This would roughly average $15 a month as opposed to $60 a month for a $500,000 policy.
However, it is more than training or education that would make someone a key person in a company. A lot of it is an employee’s creativity and uniqueness that makes them a key person.
“In reality, many small to medium-sized companies have key persons whom should be insured. Often, these companies just don’t have the resources or talent pool to properly replace a key person. The insurance policy is what will keep them afloat while they search, and this could take months,” says Rose.
Rose has an excellent point. Finding a suitable replacement for your business’ key person requires more work than finding someone who is technically qualified. You want to find someone that will add the same level of passion and innovation to your company, and honour the legacy of their predecessor.
Amanda Wagner is the founder of The Complement, a sales and retail consulting firm formally known as Retail to Riches, and she thinks that even just actively considering key person insurance for your business can help you reduce risk.
“There is no magic number that a business has to reach before they start considering the what ifs. Instead, a business needs to analyze the impact of their scope. How many people do they employ? How many clients do they work with? How important is this work to their clients and their impact? All of these questions will help them in determining whether or not key person insurance is right for them,” Wagner explains.
Tentrini also agrees that owners and officers of a business have the responsibility to assess all possible business risks and find possible solutions to protect the business, it’s employees, clients, and suppliers. “When an organization loses a key person, they also run the risk of losing access to key accounts and relationships, and important technical skills and knowledge,” she says.
“When you are considering key person insurance for your business, think of it as a baby. What kind of care do you want your baby to have after you pass away? If you want your business to continue then you need to consider all the logistics required to continue operating the business, especially in the digital world,” Wagner adds. “Is your business prepared to pass on the necessary information from the previous key person to the newly appointed key person? Are passwords, account information, and finances documented and accessible? And where is this information even stored? You can’t overlook or forget critical details because it could lead to financial issues down the road.”
What is the actuality that a business will need to use their key person insurance policy? Let’s consider the facts. According to the Heart and Stroke Foundation of Canada, one out of four Canadians will develop heart disease, about half of all heart attacks happen to people during their working years, and on average, a stroke occurs every 10 minutes in Canada. Statistics from The National Cancer Institute of Canada also suggest that one in three people will develop cancer. It’s also important to consider the impact of a key person facing long-term disability. The Society of Actuaries’ Commissioner’s IDA Morbidity and Commissioner’s SO Mortality tables report that most disability claims involve accidents resulting in serious injuries, psychological illnesses, stroke, heart disease or musculoskeletal conditions such as back problems. Furthermore, during his or her working years, a 35-year-old has a 50 per cent chance of suffering a disability that lasts for more than three months.
“For a business, the death of a key person can be a slip, not a slide. Apple is a great example of a company that continued to forge on. It has been seven years since Steve Jobs passed away, and his business continues to operate as if no major disturbance had ever occurred. This is exactly how key person life insurance saves a company; it forces them to think ahead. By planning for the all of the worst case scenarios, including the death of a key person, a business creates a healthy and financially sustainable way to reduce risk,” concludes Wagner.