The Second Sale: Winning Over Underwriters For Coverage

Key Person Underwriting Hurdles

The primary reason a business purchases key-person life insurance is to indemnify itself for losses and expenses that it expects to incur in the event of the key person’s death.

A secondary use is for a business to get access to credit. When a banker is dealing with a business that has a person whose loss would disrupt the business, the banker will often require key-person life insurance coverage–with benefits assigned to the bank–as part of its approval process.

In a typical key-person arrangement, an underwriter will expect to see the business as the owner and beneficiary of the life insurance policy for the key person. While other policy structures are possible, they will require explanation.

Make sure when applying for key-person coverage that the purpose is to indemnify the business for the loss or expenses expected to be incurred if that person dies. If other needs exist for the coverage, explain them in your cover letter.

The first item your cover letter should contain is an explanation of why the insured individual is key. Describe the individual’s position in the business, and if the insured is an owner of the business, indicate the percentage of ownership. Also, provide a biography on your key person showing previous successes or reasons that this individual’s talents exceed those of his or her industry peers.

Emphasize earnings history and previous experience, education, accomplishments, and special abilities. Don’t forget to relate data about the degree to which the key person’s skill, knowledge, or influence is contributing to the growth of the company, its profits, and its borrowing capabilities.

The second item your cover letter will need to explain is how the face amount of insurance coverage was determined. Include documentation with the letter that supports the coverage amount requested.

There are varied approaches to estimate the monetary loss to the business from the death of a key person. The method most frequently used by carriers to value a key person has been based on the amount of compensation paid that person, multiplied by a factor representing the years needed to recover the loss and to replace the person.

A multiple of salary for key person life insurance is strictly a guideline. What needs to be valued is the financial loss to the business. If other documentation is more representative of the loss, provide those documents with the story, relating them to the amount requested.

Buy-Sell Underwriting Hurdles

Another area where we often experience trouble in getting the coverage amount requested is in policies intended to fund buy-sell arrangements. Where the coverage requested is intended to provide cash to help survivors purchase the interest of a deceased owner under a buy-sell arrangement, it is important the cover letter clearly establishes the identity of the owners of the business, their current ownership interest in the business, and how the buyout would occur.

In a buy-sell situation, the life insurance face amounts are generally issued for the insured’s pro-rata share of the current business fair market value, with adjustments made for the business’s future financial growth. Thus, the key to winning the case is to provide underwriting with documentation that supports the amount requested.

So what are some of the documents you can provide an underwriter to help determine business value? The ultimate item an underwriter would love to receive is a formal business valuation by an accredited appraiser. Such justification is rarely available, however.

Sometimes, valuation is derived from a recent sale of a partial interest in the business. In most cases, the value of the business is based on information found in the business financial statements.

It’s important to take the time to do a review of the financial statements to see if the numbers support the amount of insurance being requested. Time spent understanding the financial statements can help you place your buy-sell cases.

Clearly, financial underwriting is more art than science. However, knowing the financial guidelines can help you position your cases. Learn to think like an underwriter, anticipate his or her questions, and be prepared to provide the answers.

Being able to package the case from a medical and financial underwriting perspective is critical. By using the tips we have covered today, you will help the underwriter at the life insurance carrier. And this will put you in a better position to win the second sale.

Terri Getman is vice president of advanced marketing at Prudential Financial Inc., Newark, N.J. You may e-mail her at [email protected]. This is an abridged version of a presentation she gave at the MDRT annual meeting in Vancouver.