A NO NONSENSE GUIDE TO LIFE INSURANCE FOR SMALL BUSINESS OWNERS WHAT IS KEY PERSON INSURANCE AND WHY IS IT SO IMPORTANT?

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1 A NO NONSENSE GUIDE TO LIFE INSURANCE FOR SMALL BUSINESS OWNERS WHAT IS KEY PERSON INSURANCE AND WHY IS IT SO IMPORTANT? 1

2 I encourage you to speak with your insurance agent or an SBLI representative about how SBLI can help you secure the life insurance you need to protect your loved ones and your business. Best wishes for a wonderful financial future. JONATHAN POND JONATHAN POND is one of America s most trusted and knowledgeable financial experts and a pioneer in bringing low-cost, personalized money guidance to American households. His work in educating the public on financial matters has been far-reaching and widely recognized. His 16 prime-time public television specials and 21 books have been critically acclaimed for their effectiveness in providing useful and understandable financial guidance to people of all financial circumstances. The comments and opinions expressed herein are solely those of the author and do not reflect the assent of SBLI or its officers, agents, or employees. SBLI and The No Nonsense Life Insurance Company are registered trademarks of The Savings Bank Life Insurance Company of Massachusetts. NAIC # The Savings Bank Life Insurance Company of Massachusetts, Woburn, MA. All rights reserved. 2

3 WHY LIFE INSURANCE IS SO IMPORTANT FOR SMALL BUSINESS OWNERS Would your business be able to continue in your absence? Many of the responsibilities of owning a business promoting your service or product, managing cash flow, hiring and managing employees, etc. require constant attention. Other matters, like insurance coverage, including life insurance, don t need regular monitoring, but are just as important. However busy you are with the day-to-day of running your business, you always need to keep your business secure. Without proper business insurance protection, misfortunes like the death of a key employee, a lawsuit, or a natural disaster could spell the end of a thriving operation. Everyone should prepare for the possibility of an untimely death. But as a business owner, you need to consider the financial impact of your death not only on your family but also on your business and, by extension, the people who depend on your business for their livelihood. That s why life insurance is an absolute necessity for business owners. Ask Yourself The Following Questions: How would your company operations be affected by the loss of a founder or key employee? Would surviving partners and your family members be able to work in unison? Would the business need to be sold and if so, how much would a sale realistically be able to command? KEY PERSON LIFE INSURANCE Key person life insurance (also called business life insurance) is a life insurance policy taken out on the life of a business owner and, if necessary, business partners. As a small business grows, key person life insurance might also be acquired for other essential employees whose death would cause severe disruption in the business. (Note: Don t confuse key person life insurance with group life insurance, which provides modest coverage to all employees.) Key Person Life Insurance For A Business Can: Provide resources to compensate the business for the loss of its owner, partner, or key employee. Provide the family of the business owner with resources to offset the deceased owner s loss of income. 3

4 Provide liquidity to pay off business debts and fund a period of transition to new management or ownership. Create additional capital for the owner s business and/or family. You can see why obtaining and maintaining sufficient life insurance is so important for owners of small businesses. Yet a recent study found that more than half of small business owners don t have a plan in place to prepare for the death or disability of the owner(s) or key employees. CHOOSING BETWEEN TERM AND WHOLE LIFE COVERAGE FOR YOUR BUSINESS Both term and whole life insurance (also called cash value or permanent insurance) can offer protection for a small business and its owners. Whether a term policy or a whole life policy is best for your business depends on number of factors, particularly whether you need insurance temporarily or for an indefinite period. Term Insurance A term life policy is often the solution for a young company. Low-cost premiums and a limited term of coverage are usually best for the needs of the business owner, the business itself, and the owner s family. You can choose between yearly renewable term or guaranteed level premium term. Yearly renewable term renews every year, and the premium is calculated based on your current age. Thus, the premium is inexpensive at first, but increases as you get older. Guaranteed level premium term has premiums that remain fixed for a period of time, 10 or 20 years, for example. The annual premium won t change during this period. Whole Life Insurance As your business grows or if you find that you ll need life insurance for an indefinite period of time, it s worth considering whole life insurance. A whole life policy provides lifetime coverage at the same annual premium level. It also builds cash value that can be used to fund needed capital or expansion. The cash value can also provide the basis for a retirement plan, which is particularly important if the business can t be sold for a large sum of money, as is often the case. Choosing between term insurance and whole life insurance is not necessarily an either/or decision. Many business owners decide that a combination of term insurance and whole life insurance best meet the needs of their families and their business. 4

5 CASE STUDY #1 Protecting a New Business Roger Vaughan has just taken the plunge. After years of planning and saving, he has resigned from his job and is launching a new business. Fortunately, he doesn t have to spend a lot of money on furniture, equipment, and overhead, but he still worries about what would happen if he were to die before the business gets to the point of being able to sustain his wife and three children: I left a good job that had a nice life insurance policy. While I have some life insurance outside my former business, I need more coverage to adequately protect my family. Roger is in a transitional period that all small business owners face. The business is so new that it is not providing a level of income and value that will provide for his family members. As so often happens, he may also need to tap into the family s savings to get the business up and running and to provide income to meet the family s needs until the business becomes profitable. I left a good job that had a nice life insurance policy. While I have some life insurance outside my former business, I need more coverage to adequately protect my family. Roger soon obtained a term life insurance policy sufficient to pay off the home mortgage, provide college funds for his children, and provide enough income to sustain the family over what would likely be a long readjustment period in the event of his death. CASE STUDY #2 Changing Needs of a Thriving Business Celeste Barnes is on top of the world. While she had read that it takes an average of seven years for a new business to become profitable, her business is growing rapidly and thriving after just three years. Other than the 80-hour work weeks, I couldn t be happier with the way things are going, says Celeste. Hiring Mark to take over sales and marketing has made a huge difference. But I also have to be realistic. Despite the early success, a service business like mine probably can t be sold for a lot of money right now. However, I should be able to build a nice nest egg from the profits to provide for retirement and to help out the kids. Celeste purchased a term life policy when she started her business enough to help surviving family members for a few years. But she needs to revisit her life insurance needs in light of her business success. As so often happens, greater success is accompanied by greater responsibilities. She needs to be concerned about two scenarios: First, Mark s value to the business may be so high that it could suffer from his death. Celeste should consider taking out a key person policy on Mark so she could quickly 5

6 replace his essential contributions to the company if necessary. She might also consider her company buying a policy for Mark s family, a thoughtful and valuable benefit to an important employee....a service business like mine probably can t be sold for a lot of money right now. Second, now that the business is profitable and growing, Celeste needs to consider what would happen to the business in the event of her death. It would be a shame to see the business close and her family not be compensated for all her efforts and sacrifice. Her company could purchase a life insurance policy on Celeste to provide 1) money to fund a period of transition either to hire someone who could run the business in her place, or for the business to be sold in an orderly fashion, and 2) funds to offset the income that she would have earned had she survived. USING LIFE INSURANCE FOR BUY-SELL AGREEMENTS If your business has partners, life insurance can be used to fund buy-sell arrangements. If one partner dies, the insurance death benefit is used to purchase the deceased partner s interest in the company from the family. That way, the surviving family members aren t saddled with a business they may not want to help run, and the surviving partner isn t forced into accepting the survivor s family as a partner. Most important, the surviving family will receive insurance benefits to help them financially in the future. Small business owners face many challenges the least of which is making sure a plan is in place should the unthinkable happen. You must consider how to financially protect your family as well as your business. That s why it s essential that you have adequate life insurance. I encourage you to speak with an SBLI representative about how SBLI can meet your personal and business insurance needs. Celeste already has a term life policy, so she might consider buying a whole life policy to better reflect her current business situation. Since Celeste is uncertain how long she ll need the coverage, whole life insurance will provide her with lifetime protection. Also, she might eventually be able to tap into the cash value of her policy to invest in her business or provide additional resources for retirement. You can talk to an SBLI representative at or chat online at SBLI.com. Jonathan Pond NNG-Biz813 6