Do you know what it takes to place coverage successfully on a key executive in a business startup?
The value of a key executive cannot be overstated when establishing a new business venture. The right key employee can create instant credibility for the business, attract capital investment and jump-start business sales. In short, a key person may be a new business venture’s most valuable asset.
The unexpected death of such a person will almost always generate significant losses and create costs to the business. In extreme situations, the death of a key person may lead to the failure of the venture.
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That?s why one of the most important business uses of life insurance in a new business venture is to provide cash to help offset the business’s economic loss caused by the death of a person whose services are critical to its success.
Life insurance acquired for such purposes is generally referred to as key person coverage. The business is usually the owner and beneficiary of the policy.
The amount of insurance coverage should reflect the estimated monetary loss the business would suffer from the death of the key employee.
Varied approaches exist to estimate the monetary loss to the business. In the absence of documentation, the method most frequently used is based on a generic multiple of the key employee’s salary and/or a percent of an existing debt.
Unfortunately, this approach may not reflect an accurate estimate of the full monetary loss a new business venture may suffer. This is because key employees in business startups often take a reduction in income in exchange for an interest in the business.
Consequently, the multiple of salary approach will all too often result in frustrated financial service professionals receiving less than applied for underwriting offers.
To place a key person case in a new business venture successfully, the financial advisor must follow a process that arms the underwriter with documentation to assess the whole businessnot just the key employee’s income.
In general, the application for key person coverage should include a cover letter that explains to the underwriter why the individual is key, how the amount of coverage was determined, and what is the financial and economic documentation that supports the coverage amount requested.
What financial and economic documentation should the advisor provide?
To start, a detailed bio of the key employee is needed. The letter should furnish details of the experiences, accomplishments, education, and earnings history, plus background and specific talents of this individual. Relevant questions should be answered such as:
? Has the client been the founder of other successful companies?