Every business has individuals who are essential to its success, whether that’s a founder, director, top salesperson, or technical expert. But what would happen if one of those people died or became critically ill? We’ll explain what key person insurance is, how it works, and whether your business should consider it.
Key person insurance exists to help businesses mitigate the financial impact of losing a key individual vital to operations or profitability.
What is key person insurance?
Key person insurance is a business protection policy that provides a lump sum payout if a key employee dies or is diagnosed with a specified critical illness during the policy term. The business takes out the policy, pays the premiums, and is the beneficiary of the payout. Analysis from Legal & General shows that a staggering 70% of businesses would collapse in under two years if they lost just one of their key people.
This money can help cover:
- Loss of profits
- Recruitment and training costs
- Loan repayments or investor commitments
- Cash flow gaps during a transition period
The goal is to give your business the breathing room it needs to stay stable while you adjust or find a replacement.
Who counts as a “key person”?
A key person is anyone whose knowledge, skills, or leadership is central to the running and revenue of the business. This often includes:
- Business owners and founders
- Managing directors
- Sales or business development leads
- Technical specialists
- Finance directors or key decision-makers
If losing them would seriously affect your ability to operate, generate revenue, or meet financial obligations, they’re likely a key person.
How does key person insurance work?
The business takes out a policy on the key individual’s life.
The business pays premiums and it is typically not a benefit-in-kind.
If the key person dies or becomes critically ill, a lump sum is paid to the business.
The funds are used to offset any financial losses or operational disruption.
Policies can be set up as life cover only or include critical illness cover, depending on the risk and needs of the business.
Do I really need key person insurance?
If your business relies heavily on one or two individuals, losing them could create significant operational or financial challenges. Key person insurance is critical if:
- You are a small to medium-sized business with limited leadership depth.
- You are seeking investment or have outstanding business loans.
- You want to protect profits and maintain confidence with clients or partners.
Many investors and lenders also see Key Person Insurance as a sign of sound risk management and business planning.
What’s the difference between key person insurance and shareholder protection?
Key person insurance protects the business from the financial impact of losing a key team member.
Shareholder protection, on the other hand, helps surviving shareholders purchase the shares of a deceased or critically ill co-owner to maintain control of the company.
The two are often used together in director-led or family-run businesses.
Is key person insurance tax-deductible?
In some cases, premiums can be treated as a business expense for Corporation Tax purposes. However, this depends on how the policy is structured and how the payout will be used.
If the cover is purely for loss of profits and not connected to share protection or personal gain, HMRC may allow tax relief. Always consult an accountant for personalised advice.
How much cover do you need?
The amount of cover depends on:
- The key person’s contribution to revenue or profit
- The cost of recruiting or replacing them
- Any debts or loans tied to their role
- The estimated impact of disruption on business performance
An insurance broker can help you assess risk and calculate the appropriate level of cover.
Key person insurance is a vital form of business protection that many UK companies overlook until it’s too late. If your business depends on specific individuals to thrive, this type of cover can help you recover financially and operationally in the event of an unexpected loss.
To protect your business from the unexpected, consult with a business protection specialist and explore how key person insurance can be integrated into your broader continuity plan.
