Key person disability insurance (sometimes known as key man disability insurance) is critical coverage for small and medium-sized business. Like many other types of business disability insurance, such as business overhead expense and disability buy-out, each owner must evaluate their needs individually. There is no “one size fits all” for protecting your business. If you’re unsure of your needs, please contact us.
Key Person Disability Insurance
Business owners typically need a variety of insurance to protect their equity and growth. While there are many types of disability insurance for business owners, key person disability insurance may be one of the most underappreciated.
Most companies have a key person in their organization. Whether they have specific knowledge, contacts, or are a top salesperson, you must protect yourself if they cannot perform on their employment contract due to an injury or illness that prevents them from working.
What would your business look like if this person could no longer provide their critical job duties?
To help ease the transition when you lose an important employee due to illness or injury, you can purchase key person disability insurance (sometimes called key man disability insurance).
How does a key person disability insurance policy work?
A key person (key man) disability insurance policy is structured to provide your business with funds to help handle the loss of a key employee should that person become totally disabled.
Total disability in these policies is typically defined as being unable to perform the material duties of his or her occupation and is not working for the business in another role with similar duties and/or earnings.
Should the key person become disabled, a benefit will be paid to the company to facilitate hiring a replacement employee and to offset the revenue lost. These benefits are typically payable either monthly or in a lump sum. Remember, for the benefit to be paid, an elimination period must be satisfied.
As with any disability policy, additional features may be available. For instance, many will offer a waiver of premium where once the key employee is totally disabled and the elimination period is satisfied, no more premium payments will be due.
Sometimes, a key person might even be a co-owner of the business. In this situation, the benefits would be available similar to that of an employee where the remaining owners can use the funds at their discretion. Often this will include temporary staffing, recruiting costs, and even revenue replacement.
Remember that for most key person disability insurance policies, if the key employee is a co-owner, they can’t own over 50% of the business.
Should a co-owner (or even a productive key person) become disabled, a traditional key man disability insurance policy may not be enough to cover the lost productivity and income. Should that need arise, consider a supplemental high limit key person disability insurance plan.
Supplemental High Limit Key Person Disability Insurance
A supplemental high limit key person disability insurance plan is available to protect your company’s cash flow. These plans are supplemental to any plan you may already have in force. Typically they are used to support one of the key person plans mentioned above.
Supplemental plans normally have limits higher than traditional policies. This could be especially important if your key employee is highly compensated or you own a larger business where revenues are higher (and the need for larger coverage).
Purchasing a supplemental key person disability insurance policy can be as simple as having a traditional policy approved. As an agency, we can often get you coverage quickly if you’ve recently applied for and accepted a standard policy.
How are benefits paid out on key person disability coverage?
This policy is very customizable to fit the needs of the business owner. Some businesses may value steady cash flow in exchange for lower premiums whereas other business owners must have a substantial sum paid up front (with a signing bonus to a replacement employee or relocation costs).
For other businesses, a solution combining both of these payout options may be attractive.
Monthly Benefit Option
Benefits typically pay on a 12 to 24-month schedule. Up to 150% of the key employee’s income can be replaced, but under certain circumstances, an even higher benefit amount can be secured. Elimination periods (before the key person disability insurance policy pays) are normally 90-180 days and largely depend on employer preference (the longer your elimination/waiting period, the less expensive your policy becomes).
Lump Sum Benefit Option
The benefit allows for a larger capital infusion vs monthly payments. This plan would cover concerns with your key employee having a longer-term disability. This option can pay up to 3X the employee’s salary. Normally, lump sum options have longer elimination periods (180-730 days). A longer elimination period can make for smaller costs but can also allow for more total potential benefits.
A lot of these variations depend on the disability insurance company issuing the policy
A combination policy will pay both a monthly benefit and a lump sum. These policies can be customized based on the needs of the business.
No matter which option is best suited for your business needs, there may be discounts (sometimes, up to 20%+) available for covering multiple key employees simultaneously.
Different policies can also be combined to get these multi-life discounts.
Also, benefits are generally received income tax-free, further adding to the business’s bottom line.
What are examples of key employees?
A well-known doctor or surgeon who attracts patients nationwide.
A hair stylist on the cutting edge of fashion.
A stock market expert who seemingly can foresee the future.
An entertainer whose popularity brings the majority of the ratings.
An architect in high demand for unique designs.
An information technology manager who single-handedly supports the company’s network.
A chef whose menu creates a line around the block.
A dentist whose charisma keeps his clients smiling.
Some examples may be hyperbole, but hopefully, you get the idea.
Any employee crucial to the success of your business and/or generates a substantial percentage of the revenue could be viewed as a key employee.
What you do to protect your business from the potential loss of that key employee is up to you.
How much does key person disability insurance cost?
That depends on several factors.
Like an individual disability insurance policy, the pricing of a key person disability insurance policy is directly affected by your gender, health, age, and occupation.
Women pay more than men for disability insurance.
People considered healthy pay less than those who are overweight or have a health condition.
The older you are, the more you’ll pay for a disability insurance policy. Many key person disability insurance plans won’t even offer policies to employees over the age of 55.
The “higher” your occupation class, the less you’ll pay for coverage. Key man disability insurance is normally only offered to the top 3 or 4 occupation classes anyway so this isn’t a huge issue.
Other considerations, such as tobacco use, dangerous hobbies, and driving record are also considered.
Usually a key person policy is less expensive than a traditional individual disability insurance policy. The reason being, that key person policies normally have longer elimination periods and shorter benefit lengths.
To get a feel of what a key person disability insurance policy costs, take a look at this chart:
Sample Monthly Premiums for a $200,000 Total Benefit
These prices assume a 100k annual salary, a 180-day elimination period, a lump sum payout, and a healthy non-smoker from the 4a occupation class.
What’s important is that you shop these policies from the major carriers that offer them to make sure that you’re getting the pricing based on your needs. That’s where we come in. You can complete the quote form on the left if you’d like a personalized example.
While no business specifically looks to add costs to their bottom line, what would the impact be to your business if you lost a key employee for a few years?
Looking at it from another perspective, what are you trying to protect your business from?
Well, it is likely the financial loss incurred should a critical employee be unable to work due to injury or sickness.
Would you replace that employee immediately (after a few months)? You probably wouldn’t, since they are so valuable to your company you would hope for a speedy recovery. However, what if that person’s absence stretched out to 6 to 12 months or even longer? They would need to be replaced.
The business would suffer losses during this time, however, once the key person disability policy began to pay, some losses could be replaced with the benefits being paid to the business. Also, these policies allow sufficient resources to be allocated in searching for an employee to replace your key person.
Is a key person disability insurance policy right for your business?
That is a question that every business owner must entertain. If you have a key employee (or co-owner the owns less than 50% of the business) and your business is small to medium in size, then it must be considered.
Remember, a key employee is normally someone with a specialty or experience not easily replaced and is already covered (or in the process of being covered) by key person life insurance.
Besides the examples listed above, attorneys, top salespeople, engineers and corporate executives may also be considered for key person disability insurance.
Here are questions every business owner, business partner, or corporate human resources manager should consider:
What happens if our key employee(s) become disabled and what is our contingency plan?
How much revenue was the key employee generating?
How difficult will it be to locate and train a replacement employee?
How much compensation will it take to hire a new employee?
Will the loss of key employees affect our relationships with other businesses?
You may also want to consider having key person life insurance or failure to survive insurance. When analyzing business owner insurance coverage, some businesses already have a key person life insurance policy in place but have neglected to consider what would happen if that key employee could not work due to disability. We help fix that problem.
At www.highincomeprotection.com we represent the major disability insurance carriers including Petersen International, a cover holder for Lloyds of London.
Contact us today for a confidential discussion about your needs. Our toll-free number is 888-636-2310, or you can fill out our quote form on the left.