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Key person insurance, also commonly called keyman insurance and key man insurance, is an important form of business insurance. There is no legal definition for "key person insurance". In general, it can be described as an insurance policy taken out by a business to compensate that business for financial losses that would arise from the death or extended incapacity of an important member of the business. To put it simply, Keyman Insurance is a standard life insurance, TPD insurance or trauma insurance policy that is used for business succession or business protection purposes. The policy's term does not extend beyond the period of the key person’s usefulness to the business. Keyman Insurance policies are usually owned by the business and the aim is to compensate the business for losses incurred with the loss of a key income generator and facilitate business continuity. Key person insurance does not indemnify the actual losses incurred but compensates with a fixed monetary sum as specified on the insurance policy.
Many businesses have a key person who is responsible for the majority of profits, or has a unique and hard to replace skill set such as Intellectual Property that is vital to the organization.An employer may take out a key person insurance policy on the life or health of any employee whose knowledge, work, or overall contribution is considered uniquely valuable to the company. The employer does this to offset the costs (such as hiring temporary help or recruiting a successor) and losses (such as a decreased ability to transact business until successors are trained) which the employer is likely to suffer in the event of the loss of a key person.
As keyperson insurance is more of a type of insurance policy than an actual policy, the term is used somewhat loosely and may include other insurance used for other business specific purposes, including:
There are four categories of loss for which key person insurance can provide compensation:
A key person can be anyone directly associated with the business whose loss can cause financial strain to the business. For example, the person could be a director of the company, a partner, a key sales person, key project manager, or someone with specific skills or knowledge which is especially valuable to the company.
Keyman Insurance policies can be owned in a number of ways depending on the needs of the business. It is common for a business to own the policy with claim proceeds being paid directly to the business. There is no legislative or insurable requirement for a policy to be owned by a specific party or entity and there may be circumstances be it for taxation or policy continuation purposes where policies may be owned and paid for by the insured person directly, or owned by another individual.
The tax treatment for premiums paid for key person insurance and the treatment of monies received from a claim vary among countries. Premiums are generally not tax deductible in the U.S. In Australia, Keyman Insurance policies are generally not deductible unless used specifically for business revenue protection purposes. Claim proceeds in Australia if used for revenue purposes may be taxable and depending on the ownership of the policy, may trigger a Capital Gains Taxation Event.