Welcome to Life Insurance 101. We’re here to make things simple for you. Today, we have David A. Jacobs, J.D., Principal at Acumen Insurance Solutions on camera to discuss the difference between buy-sell and key-person insurance.
Let’s dive in.
What is Buy-Sell Life Insurance?
Buy-sell life insurance is different from key-person (or key-man in the old days) life insurance. Buy-sell life insurance is used to protect a departing owner and his/her heirs, as well as the business and its remaining owners.
An Example of Buy-Sell Life Insurance
Let’s say Bob and Rick are in business together; they are 50-50 owners. Bob happens to pass away unexpectedly. In this case, Rick would then be in business with Bob’s beneficiaries, which is likely not an ideal situation for any party.
Therefore, the payout from a life insurance policy on Bob’s life is used as a way for Rick (or the business) to immediately obtain the financial resources necessary to buy out Bob’s beneficiaries, and vice versa. This way, Bob’s beneficiaries walk away with cash, and Rick with the shares of the business.
What is Key-Person Life Insurance?
Key-person life insurance, on the other hand, provides money to the business that’s lost a key employee which can be used to help replace lost revenue and offset costs to identify and train a replacement.
When Do You Use Buy-Sell Life Insurance?
There’s often a legal agreement between partners in a business—a shareholders’ agreement. The buy-sell portion of this agreement dictates what happens when a triggering event occurs and ownership needs to change hands.
These triggering events, to name a few, might include:
- Divorce of a partner, or
Regardless of the triggering event, the organization and/or the partners need to have the funding available in order to buy out the departing partner or the departing partner’s heirs, if necessary.
Life insurance is a great way to do that.
Using Permanent Life Insurance to Fund Buy-Sell
Permanent life insurance (whole, universal, index, and variable) with cash value can help you handle all of those triggering events, whether the departing owner leaves due to death or another reason.
If an owner happens to pass away, the life insurance death benefit is used. However, if another triggering event occurs, the life insurance cash value can be tapped in order to meet that obligation and prevent using company cash flow or having to borrow at high interest rates.
The Importance of Life Insurance
Even if you don’t have a business partner, it’s important to make sure you protect your family by having insurance on your life for the current value or projected value of your business. If you pass away unexpectedly, your family will lose the income you generated and the value of your business will likely decline or perhaps disappear. It would be a shame for your family to not be able to reap the rewards of your hard work if you’re no longer there.
Interested in learning more? Check out another one of our Life Insurance 101 topics: Term Life Insurance vs. Permanent Life Insurance.