Key Person Insurance: What It Is, How It Works
Key person insurance can help your company survive the death or disability of the business owner or a core employee.
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Key person insurance, is life or disability insurance that a business carries on its core employees. If the key person dies or becomes disabled, the insurance policy pays your company to help replace them.
Key person insurance is important for companies with revenue that depends on one person’s expertise, performance or personal network. But if you work in an industry where employees have more generalized skill sets, this business insurance coverage probably isn’t necessary.
Save up to 30% on business insurance
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Best key person insurance companies
Key person insurance is a fairly specialized type of insurance, so it’s usually sold by longstanding insurance companies. You'll probably need to work with an insurance agent or broker to get coverage.
The NerdWallet editorial team’s top choices are companies that:
- Get relatively few complaints to regulators about their general liability and property insurance coverage.
- Get high financial strength ratings from credit rating agencies, which should mean they have enough money to pay out all their claims.
- Let you get a quote and make a purchase online so you can get the policy you need fast.
NerdWallet recommends getting multiple quotes so you can find the best coverage at the best price.
These are our top picks for key person insurance:
Chubb
Best for startups
Chubb sells a key person insurance policy designed for startups with less than three years in operation. Premiums can be as low as $20 per month, and the policy will pay out between $1,000 and $8,000 per month if you have to use it. It includes total and partial disability benefits along with a death benefit. Read NerdWallet's review of Chubb business insurance.
Allstate
Best for several types of life insurance
Allstate offers term, universal, whole and variable life insurance policies, so you can choose which best fits your business needs. This insurer’s policies are sold by Allstate agents nationwide. Read NerdWallet’s review of Allstate business insurance.
Nationwide
Best for help investing a key person insurance policy
Nationwide offers two different universal life insurance policies, both of which can be invested to fund other employee benefits. To help you navigate those investments, Nationwide can also help you connect with a financial professional. Read NerdWallet’s review of Nationwide business insurance.
What is key person insurance?
Key person insurance helps a business maintain its financial footing after an owner or key employee dies or becomes unable to work.
These key people might include employees who:
- Have highly specialized technical knowledge or industry expertise.
- Have a reputation in your industry or community that is key to business success.
- Are responsible for bringing in a significant amount of revenue that will take time to replace.
Investors and lenders often require key person insurance on a business’s management team.
Key person insurance can also be used in situations where there’s no key member of your business. For example, in a small-business partnership, partners can purchase key person insurance to buy out the shares of former partners.
🤓 Nerdy Tip
Keep in mind that the business owns, pays for and benefits from a key person policy. You'll need a separate personal life insurance policy or disability insurance policy to protect your family members if you pass away or become disabled. Save up to 30% on business insurance
NerdWallet Small Business helps you get real-time quotes from 30+ insurers, and instant access to your Certificate of Insurance (COI) through our partner, Coverdash.
What does key person insurance cover?
Key person insurance covers the death or disability of an employee.
For businesses, the proceeds from key person insurance can be put toward any of the following:
- Covering operating expenses until you hire a replacement.
- Training the replacement hire.
- Offsetting lost income.
- Purchasing a former owner’s ownership interest in the business. (You should also have a buy-sell agreement if you plan to use key person insurance for this purpose.)
If you decide it's better to shut down the business, key person insurance proceeds can also be used to pay off debts, distribute money to investors, pay severance to employees and otherwise wind down the business.
You might also be able to borrow against your policy’s cash value or withdraw cash from your policy, though this will reduce the amount of the death benefit.
If the key person person leaves your company, you can either cancel the policy or transfer it to the insured person. That person can then adapt the policy to their own personal needs and start paying the premiums.
Types of key person insurance
Key person insurance falls in the category of life and disability insurance. When you shop for key person insurance, you’ll be able to purchase the following types of insurance policies:
Term life key person insurance
Term life insurance is the most popular and affordable option for life insurance. Similar to car insurance or homeowner’s insurance, you pay premiums on a term life policy every month or every year, and you’re covered if the insured passes away anytime during the term of the policy.
Typically, you can purchase term life insurance for a period of up to 35 years. You can renew when the policy expires.
Whole life key person insurance
Whole life insurance, also called permanent life insurance, doesn’t have an expiration date. The policy remains in effect for as long as you pay the premiums.
Whole life insurance is more expensive than term insurance, but your premiums go into a savings account. As a result, the policy gains cash value that you can borrow against or withdraw money from.
Variable life key person insurance
Variable life insurance is similar to whole life insurance because the insurance stays in effect for as long as you pay premiums. The difference is that the premiums are placed in investment accounts rather than a savings account.
Investments can lose value unpredictably with market highs and lows, so a variable policy can be risky.
Disability key person insurance
You can add a disability insurance component to your key person insurance as well. The insurer will pay a benefit — usually 40% to 70% of the key employee’s salary, according to the Insurance Information Institute — if the insured experiences a disability that prevents them from performing their job responsibilities.
How much does key person insurance cost?
You’ll need to purchase a separate key person policy for each of your key employees. How much each policy will cost depends on:
- The age, gender, and physical health of the insured. (Insurers might require the insured to take an exam before issuing the policy.)
- The insured’s occupation and industry.
- The insured’s total compensation.
- The amount of coverage your business needs.
Is key person insurance tax-deductible?
The IRS generally doesn’t allow businesses to deduct key person life and disability insurance premiums. However, key person insurance proceeds are tax-free as long as you obtain the key person’s consent before purchasing the policy and file the correct forms with the IRS. Ask your accountant to help you do this.
How much key person insurance coverage do you need?
To figure this out, consider:
- Cost to replace: Add up the costs required to find, hire, and train a replacement for the insured owner or employee. Include any lost business income during this time.
- Contribution to earnings: Identify how much revenue or profit that the insured individual brings to the business. Then multiply that by the number of years your business will take to replace those earnings. New businesses can use revenue figures, while established businesses should focus on profit.
- Multiple of compensation: If you use performance-based compensation, take the key person’s compensation and multiply it by the number of years that your business will take to fully recover from their loss. For instance, it might take a junior lawyer five years to reach the same productivity level as a partner who exits the firm.
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