Looking for a way to grow your business? As of December 2012, there were more than a million employer businesses in Canada. Small businesses that employ between 1 and 99 people make up 98.2% of employer businesses.1 This represents a huge opportunity, so look to your existing clients who are also business owners and make them part of your marketing strategy.
Term life insurance is a valuable tool suitable for your business owner clients’ needs. It helps to reduce the risk of unexpected financial losses associated with premature death and provides a foundation for continued business success. Most business owners recognize how life insurance can be used to address many of the challenges associated with growing a successful company.
Some common uses of business owner life insurance include: key-person insurance, collateral for a loan, buy-sell agreement funding, asset accumulation and estate planning. Let’s take a brief look at each of these.
In many cases, a small business has one or two people who are instrumental in the continued success of the business — usually the business owners. To protect the company if one of them dies, it’s common for the company to purchase an insurance policy and pay the premiums on the life of these key individuals. If they die, the company receives the policy proceeds and can use the funds to hire a replacement, pay debts or buy time to liquidate company assets and close up shop.
Collateral for a loan
Business loans often require life insurance on the business owner as collateral security for the loan. The business owns the policy, pays the premiums and is the named beneficiary.
A collateral assignment is signed by the policy owner and is filed with the insurance company that issued the policy. If the insured person dies, the lender has first rights to the policy benefits for any outstanding balance on the loan. The business would then receive the rest.
Buy-sell agreements provide direction for succession upon the death of an owner or another trigger event. They’re an important part of a good business plan and play a role in preserving a business. They also provide financial security for both the business owners and their families. Buy-sell agreements can be funded with life insurance policies to make the money needed to buy out one partner’s ownership interest readily available.
Asset accumulation strategy
The unique combination of death benefits, tax advantages and potential for creditor protection make life insurance an effective tool for business owners to grow their assets. They can provide tax-deferred growth and access to policy cash values and policy loans. The type of life insurance policy to use depends on the desired objectives of the business or business owner.
Many business owners tie up the value of their estate in their business. If their estate and business succession plans are incomplete, heavy income taxes may have to be paid upon their death and the business may have to close its doors. A life insurance policy can be used to provide the funds needed to pay income taxes due when a business owner dies.
Term insurance and optional benefits are right for sole-proprietors, partnerships, and the owners of corporations who are:
- Newly established or expanding their business
- Concerned with business succession
- Needing to cover a larger, temporary risk
- Looking to protect the value of a key employee
- Needing to match their term length to a business plan
- Looking for a solution to fund their rights under a buy-sell agreement
- Wanting to guarantee their insurability if one of the business partners die
- Wanting to increase their insurance coverage for their business as it grows in value
Case Study – The multiple partner dilemma
XYZ Corporation is worth approximately $3.6 million and has three equal partners. They want to make sure the business has enough money to pay each partner’s family for their share of the business if any of the partners dies. The business is fairly new and grew quickly, so while they have drawn up a buy-sell agreement, they currently don’t have life insurance in place to fund that agreement. Much of the cash flow is reinvested to take advantage of further growth opportunities, so affordable premiums are a must.
What you can offer XYZ Corporation is a term 20 multiple life policy that covers each partner for their share of the business — $1.2 million each. If one partner dies, XYZ can use the proceeds to ensure funds are available to purchase the deceased partner’s ownership interest in the business.
While this solves the issue of ownership transfer, it creates another challenge. The surviving partners’ ownership interests have now increased from one-third to one-half. The corporation now needs additional insurance coverage that aligns with the new ownership interests of the surviving partners.
The solution is to include a Partner protection benefit with the original application that preserves the continuity of the business by guaranteeing the insurability of the two surviving business partners. It allows XYZ Corporation to purchase additional life insurance on the lives of the remaining partners following the death of the first insured business partner.
To be able to purchase additional insurance the policy owner must show that the partners continue to have an ownership interest. The policy owner must also show the current business value. The total amount of new insurance that can be purchased on all surviving insured partners may not be greater than the death benefit paid out at the death of the first insured partner. The amount of insurance each surviving partner is covered for is used to determine the amount of new insurance that can be applied. In this case, XYZ Corporation would be eligible to purchase $600,000 of new insurance on each surviving insured partner, bringing the total amount of coverage on each partner to $1.8 million.
A term multiple life policy, with the optional Partner protection benefit, protects each partner’s share of the business and offers additional flexibility if one partner dies.
By recommending a term 20 policy with the Partner protection benefit, you’re effectively:
- Providing XYZ Corporation with affordable premiums that make changes in the company’s cash flow more manageable;
- Ensuring that death benefit funds are available to purchase a deceased partner’s ownership interest in the business; and
- Making it possible for XYZ to purchase the insurance on the surviving insured business partners without concerns about their insurability.
While most insurance carriers provide these options, Sun Life Financial is one of the few companies to offer the Partner protection benefit, guaranteeing medical insurability for surviving insured business partners. So if you’re looking to grow your business, reach out to the small business owners in your community and show them an affordable solution that meets their unique needs.
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1 Statistics Canada, Key Small Business Statistics, August 2013, Table 1