For the average small business, its biggest asset is the ability, initiative and judgment of its owner or a key employee. The loss of this leader or other important individual involved in a closely held business will certainly have a negative impact on the earnings power and stability of the business. Even the IRS agrees that the loss of a key-person can decrease the ongoing concern value of a business and lead to a significant discount of the economic value of a business.
“Loss” means the death, disability or separation of the key person from the business. The loss of a key person can create serious financial issues such as the cost to recruit and train high caliber replacement personnel plus the opportunity cost of lost business during the transition.
Life insurance is the common risk management tool to protect the business against the unexpected death of a key person. Term life insurance owned by the business on the life of the key employee is the simplest and cheapest risk management tool. Alternatively, cash value life insurance could produce a return on the cumulative premiums paid into the policy and provide other financial benefits to the key person in retirement.
A long-term serious disability is a more likely event yet more difficult to protect against because a substantial amount of disability insurance cannot be purchased on a key person. However, disability insurance would generate a consistent long-term cash flow to the business or business owner that could be used to hire new personnel to help run the business.
As business planning specialists, we understand the importance of a good risk management program to protect key personnel as part of an effective long-term business continuity plan.
