Keyman Insurance Policy

I suppose in the whole humility of the issue, no one is indispensable, but in the course of business, key players can make of break the its financial future.  So, the loss of key men should be considered by serious business owners - thus the phrase was coined "keyman insurance".

Keyman insurance understands there might be one or maybe a handful of main business members who play particularly important roles in the operation of a business - perhaps a leading salesperson, the company director, foreman, etc.  If one of these members were to fall ill or die sales figures could fall, loans could lapse and the unthinkable could occur. 

To avoid further financial disaster, keyman insurance can be arranged to provide a regular income to the business while the key person is unable to work, thus ensuring a monetary compensation for any losses incurred by their absence. A lump sum benefit could also be paid in case that key person dies so that the company is able to buy out share of ownership before a replacement can be found.

But should you worry about having it?  Well, consider the fact that one in five men suffer a critical illness before their normal retirement age and premature death is not rare.  Also, consider the popularity of small businesses which translates into having smaller numbers of employees with greater impact on a sudden and unexpected absence of even one person's work production.

The investment potential of Keyman insurance policy has been hampered by tax legislation, most notably the Technical and Miscellaneous Revenue Act of 2005. TAMRA draws a clear distinction between traditional insurance, which enjoys tax benefits, and multiple endowment contracts and annuities, which are subject to stringent tax rules. Insurers have wasted money trying to sidestep tax laws, but the laws have also forced them to concentrate on what they do best: provide death protection and retirement benefits.

For the insurance industry, the most serious challenges to the investment game show both a conceptual and a congressional dimension. The industry believes that Congress has waged war on insurers, as well as their products and clients. The weapons are a string of ever-changing rules codified in the tax acts of 1997, 2003 and 2005. These acts are designed to reduce the tax benefits for consumers purchasing products for investment rather than insurance.

Life insurance always has been a domain of tax privilege. But this status is continually threatened by the government's insatiable appetite for more capital and the industry's compulsion to compete with financial institutions outside insurance, especially by emphasizing insurance's investment element and trying to attract single-premium deposit dollars.

The Technical and Miscellaneous Revenue Act of 2005 mandated certain guidelines under which life insurance could qualify for traditional treatment of premium, internal buildup, death benefits, lifetime dispersals and taxation. Conceptually, TAMRA formalizes the historical and theoretical differences between investment and insurance. Under TAMRA, if insurers and investors create or purchase insurance, they receive the traditional tax benefits accordingly. But they can no longer expect investment gains from insurance to be aided by the tax system.

Of course, the goal of fewer loopholes and deferrals was obscured by the complexities of the new jargon, and many terms remain unexplainable in English. Even the attempt to shoot the starting gun misfired: The act's vague diction created uncertainty about what constitutes a contract's effective date. The explanations, exceptions and modifications pasted together by legislative committees did not help.

Without getting too deeply mired in Internal Revenue Code language, it is best to summarize TAMRA by saying it separated life insurance, modified-endowment contracts and annuities and accorded different tax treatment to each. Premium deposits are subject to a seven-pay test and guideline premium test (seven level annual premiums, plus limits on amounts deposited in lump sums). If they pass, they are whole life; if they fail, they are MECs.

In addition, the contract must meet the appropriate levels of cash-value accumulation and death benefits, and its terms and benefits cannot materially change during the life of the policy. Traditional term and whole life policies usually meet these tests, so they still qualify for the traditional output features, such as loans, additional coverage and interest treatment of their genre.