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- June 20, 2022
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Importance of Purchasing Business Protection – Leena Parwani
What is business protection?
Simply put, business protection is an insurance contract that is availed to protect a business from the financial consequences of key individuals being temporarily indisposed, getting diagnosed with a critical illness or succumbing to death. It prevents business owners from being blindsided and buys them time to execute contingency plans. Chosen right, the right type of business protection can and will ensure the survival of the business with minimal disruption following a loss.
Business protection is available for key employees, partnerships, shareholders, and sole traders, and the arrangement will vary depending on the type of business and the unique requirements of said business. Critical illness cover can also be considered as a safety net.
Business protection can be broken down into three main categories, underpinning each of which is one or more life insurance policies:
1. Key person Protection
2. Commercial loan Protection
3. Share purchase protection
Let us take a detailed look at the types of business protection available and understand when to use
which one through case studies.
Key person protection:
Basically, key person protection, also known as ‘key man insurance’, aims to replace the lost profits a business may suffer as a result of the death or critical illness of a key employee or business owner.
Consider a company, say, ABC LLC, which is reliant on their star salesperson for all their sales. If said salesperson were to be indisposed or lost to unforeseen causes, the sales targets set by the company will take a direct hit in the time it takes to find and train a new replacement salesperson. In order to avoid the hit, it is recommended that the company take a business protection policy on the life of their top salesperson to protect themselves against profit loss in the event of his or her death.
Commercial loan protection:
Commercial loan protection aims to repay business debt in the event of the death or critical illness of a key employee or business owner who was integral to the business operations
Let us consider a company, DEF LLC, that has taken a significant bank loan to purchase equipment that can be manned by their chief scientist alone. If the chief scientist were to pass away before the loan is fully paid, that could leave the company in crisis, and it is recommended that the company purchase a business protection policy on his life to repay the loan in case of is untimely demise.
Share purchase protection:
Share purchase protection aims to allow the ownership of a business to pass into the correct hands in the death or critical illness of a business owner and to create the necessary liquidity for the ill owner, or a deceased owner’s family, to be compensated for the loss of the business interest.
Say a company, GHI LLC, has three shareholding directors who each own one-third of the shares. Should any of the shareholding directors die, the survivors would want to buy the deceased’s share of the company. In order to avoid a conflict of interest in case one of the shareholders is unable to fulfill his duties, a business protection policy tailormade for the business in consideration will ensure an amicable distribution of his or her shares such that the other stakeholders benefit equally.
It is important to consider the three types of business protection separately due to the following reasons:
1. A business may have multiple business protection needs, and it is important to identify and quantify each of them to ensure a sturdy safety net for the business in all domains.
2. Different needs warrant different structuring of policies. A single company might have both key persons and share protection needs. Key-person policies are usually owned by the company and share protection policies are typically owned by the shareholders themselves.
3. Another reason to consider these three areas separately is that the tax position of each type of policy can differ depending upon its purpose.
4. Finally, the financial underwriting of a policy application can also depend on the purpose of the cover.
In conclusion, it is advised to have proper business protection for key realms of every business to ensure that the business goals are not derailed by unanticipated circumstances.
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