The short answer
This guide answers the most common questions about key person insurance tax treatment.
Taxes are one of the first questions business owners ask about key person coverage.
Here is a plain-English overview. Always confirm details with your tax professional.
Part of our complete guide: Key Person Insurance: The Complete Guide.
Quick answer
Premiums are generally not deductible when the business is beneficiary. Benefits are generally income-tax-free if notice and consent rules are met. Get signed consent before the policy is issued.
MarketView Agency is an independent insurance agency (National Producer Number 18345705).
On this page
- Key person insurance tax treatment: how key person insurance is taxed
- How key person insurance works
- How much key person coverage does a business need?
- Is key person coverage the same as a buy-sell policy?
- Why small businesses need it most
- How underwriting works for key person insurance
- Why work with an independent agency
- Does your business need it?
- Frequently asked questions
Key person insurance tax treatment: how key person insurance is taxed
Key person coverage has two tax points to remember. Premiums are generally not deductible. Death benefits are generally income-tax-free to the business if the notice and consent rules for employer-owned policies are followed.
Tip: Get the insured's signed consent and notice before the policy is issued, and keep copies with your business records.
How key person insurance works
Every small business has people it cannot easily replace: a founder with the client relationships, a partner with the technical skill, a top producer. Key person insurance gives the business cash to get through the loss of one of them.
- Owner: the business.
- Payer: the business.
- Beneficiary: the business.
- Insured: the key person, who must consent in writing.
Compare rates from several carriers in about two minutes. Free, no obligation.
How much key person coverage does a business need?
Start with what would actually happen if this person were gone tomorrow. Which clients might leave? Which projects would stall? How long would it take to replace them? Put rough numbers on those questions.
Insurers will review financial statements for larger amounts. A coverage amount tied to a clear business reason is easier to approve.
Is key person coverage the same as a buy-sell policy?
| Feature | Key person insurance | Buy-sell funding |
|---|---|---|
| Purpose | Protect the business from a loss | Buy out a departed owner's share |
| Beneficiary | The business | The business or the other owners |
| Who it helps | The company and its staff | The remaining owners and the departed owner's family |
| Paired document | None required | A buy-sell agreement |
Many businesses need both. Key person coverage keeps the company running; buy-sell funding gives the surviving owners cash to buy the departed owner's share at a fair price.
Why small businesses need it most
The smaller the team, the more each person matters. A small business may depend on one or two people for sales, delivery or the know-how that keeps clients coming back.
- Identify who would be hardest to replace.
- Estimate the financial impact of losing them.
- Choose a term that covers the transition period, or permanent coverage for long-term needs.
- Review the coverage as the business grows.
How to get covered in 3 steps
- Pick who to cover and how much. Use a clear valuation method for the person's role.
- Compare carriers. An independent agent quotes several insurers and handles notice and consent paperwork.
- Apply and set up ownership. The business owns the policy, pays the premium and is the beneficiary.
How underwriting works for key person insurance
Every life insurance application goes through underwriting. That is the insurer's review of who you are, how healthy you are and how much risk the policy carries. The result is your rate class, which sets your price.
- Your answers. Health history, medications, tobacco or nicotine use, family history, travel and hobbies.
- Records. Prescription history, a shared database of prior insurance applications, and often your driving record.
- Sometimes an exam. A short visit from a paramedical examiner to check height, weight, blood pressure and lab samples.
- Sometimes medical records. For larger amounts or certain conditions, the insurer may ask your doctor's office for notes.
Insurers do not all weigh these things the same way. One carrier may treat a managed condition, like controlled blood pressure, more favorably than another. That is a big reason to compare several carriers rather than accept the first offer.
Be complete and honest on the application. Policies have a contestability period, usually the first two years, when the insurer can review a claim against what you said when you applied.
Why work with an independent agency
We are an independent agency, which means we are not tied to one insurer. We compare plans from several carriers and help you pick the one that fits.
- More choices. Several carriers, not one.
- Help with health history. Some carriers view certain conditions more favorably than others.
- No added cost. Premiums are set by the carrier, not the agent.
- No pressure. If a policy is not a fit, we will say so.
Does your business need it?
Often a good fit
- a business that depends on one or a few people for revenue or operations.
- a business with loans an owner has personally signed for.
- Also consider: buy-sell funding if there are multiple owners.
Maybe not the right fit
- a business that could replace any role quickly without lost revenue.
