What would happen to your business if you suddenly died? This guide shows you how term life insurance for small business owners can save your business.
You insure your home, your car and probably even insure your business. But do you have life insurance to protect your business from financial catastrophe?
Don’t assume your family can sell your business to pay off your debt. In reality, this rarely happens. When a family is forced to sell the business quickly, they may have to sell it at a fraction of what the business is actually worth.
Without the business owner or partner, the business could be worth very little to a prospective buyer. In the event that something happens to you, term life insurance can protect your family by providing funds to cover debts and ongoing living expenses.
Why Term Life Insurance For Small Business Owners?
According to a life insurance study by LifeHappens.com and LIMRA (Life Insurance and Research Marketing Association), 86% of Americans haven’t bought life insurance because they think it is too expensive. The truth is, if you are in fairly good health, term insurance can be very inexpensive.
For instance; a $500,000 policy for a healthy, 35 year old, non-smoking male, could cost less than $20 a month. For many business owners, this is very affordable and could save a business from financial ruin.
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Term insurance is temporary coverage. Policies come in various lengths or terms: 10,15,20, 25 and even 30 years. To qualify for this coverage, you will have to submit to an insurance company medical exam. Once approved, the cost or premium and the amount of coverage are fixed (level) for the duration of the policy.
However, once the term is over, the policy ends. Obtaining a new policy could mean having to go through a new medical exam. Sometimes, because of previous health issues, you might not qualify for a new policy or must pay higher premiums.
The Many Uses of Term Life Insurance For Small Business Owners
There are several ways a business owner can protect his or her business with life insurance. Without insurance coverage, your business is left extremely vulnerable in the event you, your partner or someone in your company passes away. Here are a few strategies you can use life insurance to protect your business.
Business Continuation Term Life insurance
A business continuation policy is much different than owning a personal policy. This type of policy protects the business in the event of premature death of an owner or partner which may result in the business being sold or liquidated. Many times, business continuation planning consists of Buy-Sell Agreements which most commonly, is “funded” with term life insurance.
Buy-Sell Agreements require surviving business owners, partners, key employees, or in some cases the business itself to purchase the interest of the deceased business owner or partner. For businesses with two or more owners, a buy-sell agreement creates a legally binding contract defining how the assets or equity in a business will be split if an owner dies. The agreement is created by purchasing life insurance policies for each owner.
When an owner named in the agreement dies, their life insurance proceeds provide funds for the remaining owners to pay the surviving family for the deceased owner’s share of the business. This allows the business to continue operating, without the remaining owners having to sell assets to pay the deceased owner’s family.
How To Determine The Right Amount of Business Continuation Insurance
The amount of insurance coverage needed to fund the agreement is determined by the owner’s share of the business, and the overall value of the business itself. Once the value of the business is appraised, you can determine the amount of coverage to purchase on each owner. Here are a few methods of business valuation:
Book Value: The book value is the most accurate way to value the net worth of a business. It is determined the same way you would estimate the net worth of an individual. The net worth of a business is calculated by adding the total amount of liabilities or outstanding debt subtracted from the amount assets the business owns.
Market Value: The market value of a business is whatever someone is willing to pay for the business. In other words, the fair market value or price someone is willing to pay for the asset.
There are many factors that go into fair market value such as type of business, sales, liabilities, location, property and so on. Market value can fluctuate vastly over time, and is significantly influenced by the cycle of business.
Key Person Term Life Insurance
Every company has key employees but very few companies have key person insurance. Key person or more commonly known as key man life insurance is a policy that protects a business from the premature death of an essential employee.
The death of a key employee could result in financial hardship for the business or worse yet the failure of the business. It is an integral part of protection planning insurance for all small business owners. Any business that depends on an employee or several employees for the success of their business should understand how this type of coverage can protect their business if a key team member died.
With key person life insurance, the business is both the owner and the beneficiary of the policy. Term life is often used for this coverage because it is very affordable. If the employee or insured dies, the business receives the proceeds. This can help to eliminate lost revenue and provide money to hire a replacement.
The amount of coverage or death benefit needed could be calculated in several ways. It could be determined by multiples of the individual’s salary, contribution to the company’s profits or what it might cost to replace the employee such as, training, hiring and selection. Life insurance companies will normally allow you to use a “rule of thumb” to purchase coverage of up to 10 or 15 times a key person’s total compensation.
Term Life Insurance for Securing an SBA Loan
Many lenders, as well as The Small Business Administration (SBA), require borrowers to own life insurance for the full amount of a loan. This not only protects the lender, but also the borrower’s family should the borrower die before the loan is repaid.
Term life insurance is the best option to secure an SBA loan because it is inexpensive and can be tailored to fit the time frame of your loan. For instance, if you have a 10 year loan, you might want to choose a 10 year level term policy. Term lengths available range from 5, 10, 15, 20 and up to 30 years.
If you die before your SBA loan is repaid, your lender will receive the death benefit from your life insurance policy. This allows your business to continue functioning and preventing your family from having to deal with the debt of your business loan.
Advantages of Using Term Life Insurance for Your Small Business
- Term life is the most affordable type of coverage
- Insurance proceeds are generally income tax free
- Liquidity is immediately provided to keep the business operating
- Cash proceeds pay off debt and provide ongoing income to family members
Disadvantages of Using Term Life Insurance for Small Business Owners
- Coverage is temporary and eventually ends
- Premiums are paid with after-tax dollars and are not tax-deductible
- Proof of insurability is required. Owners must be in good health to qualify for a policy
- Continuing obligation to pay premiums and keep the policy in force
How To Avoid Paying Too Much For Your Policy
As an independent agency, we can save you time and money by shopping for competitive quotes from several insurance companies. In a matter of just a few minutes, we can provide you with the most affordable life insurance for small business owners.
Unlike your home or auto insurance agent – who represents one big-name company – we can shop multiple top-rated carriers. When you have more options, you have a better chance of finding better rates.
By representing more than 30 life insurance companies, we’re able to find you the best life insurance options available. We specialize with helping small business owners protect their business and not pay a lot of money for coverage. Call us today at: 914-633-1717 to learn how you can get the best term life policy for your small business.