Key Person Insurance vs Buy Sell Agreement
Key person insurance is a policy that pays your company a lump sum if a named individual dies or, where added, becomes critically ill, and a buy sell agreement is a legal contract setting out what happens to a shareholder’s stake when they die. The one difference that decides how you think about them is that only one of the two is insurance, because an agreement is a set of instructions with no money attached until you fund it.
The short answer
A policy the company owns and pays for on a named individual. If that person dies or is diagnosed with a covered critical illness where that option is added, the insurer pays a lump sum to the business so it can absorb lost profit, recruitment costs and disruption. The money goes to the company, and it is not tied to shares.
A legal contract between the owners of a business. It sets out what happens to a shareholder’s or partner’s stake when they die, and often when they become critically ill or leave. It says who can buy, who can sell, how the price is set and what the timescales are. It is drafted by a solicitor, and it is not insurance.
Shareholder protection insurance can fund the agreement. It provides the cash so the survivors can buy the shares the agreement lets them buy. Without it, the agreement gives you the right to purchase something you may have no way of affording.
The difference between the two is the job each one does. Key person insurance replaces the profit a person generated. A buy sell agreement decides who ends up owning the business. The agreement without insurance is a promise with no money behind it. The insurance without an agreement is money with nobody obliged to do anything sensible with it.
Side-by-side comparison
| Comparison | Key person insurance | Buy sell or cross option agreement |
|---|---|---|
| What it is | An insurance policy. | A legal contract, often funded separately by shareholder protection insurance. |
| What it protects | Company profit and continuity. | Ownership and control of the business. |
| Who arranges it | A protection adviser or broker. | A solicitor, with an adviser arranging the funding. |
| Who owns and pays | The company owns and pays. | The agreement costs legal fees. The insurance is usually paid by each shareholder or the company. |
| Who receives the money | The business. | The deceased’s estate receives the purchase price, the survivors receive the shares. |
| What triggers it | Death, or critical illness where added. | Death, and often critical illness or departure where the agreement provides for it. |
| Tax treatment of premiums | May be allowable where HMRC’s Anderson principles are met, though it is not automatic.Relief is at least possible | Usually not allowable for the company where the benefit is to shareholders. |
| Tax treatment of the proceeds | Usually a taxable trading receipt where premiums were allowed. | Usually structured to be received free of income tax by the beneficiaries when written under trust.Usually tax free to beneficiaries |
| Inheritance tax effect | None directly, the company is the beneficiary. | Wording is critical. A binding buy and sell can deny business relief. |
| Cost to set up | Premium only.Simpler to put in place | Legal fees for drafting, plus valuation, plus insurance premiums. |
| Needed if you are a sole owner | Often yes, if others depend on the business.The only one that helps a sole owner | No, there is nobody to buy from or sell to. |
| Needed if you have co-owners | Sometimes, depending on who drives profit. | Usually yes.The priority for co-owners |
| How often to review | Every two years or on material change. | On any change in shareholding, valuation or ownership. |
| What happens without it | The business funds lost profit from cash flow. | Shares can pass to a spouse or child who has no interest in running the business. |
The highlighted cells show which of the two is the more relevant tool for that row, not that one is the better product. They do different jobs, and most businesses with co-owners need both. General comparison only. Tax treatment depends on individual circumstances and may change, and cover is subject to underwriting and acceptance.
Which is right for you?
- One or two individuals bring in most of your revenue, hold the client relationships or carry the technical knowledge
- The person you are worried about is an employee rather than an owner, so there are no shares involved
- You would face months of reduced profit and real recruitment costs if that person was gone
- A lender, investor or major customer has asked what happens to the business if a named person dies
- You are the sole owner, so there is nobody to buy your shares from and nobody to sell to
- You have already sorted out ownership and the remaining exposure is lost trading profit
- You own the business with one or more other people
- You would not want a co-owner’s spouse or children inheriting a stake and a seat at the table
- Nobody has ever written down what happens to shares on a shareholder’s death
- Your articles of association are the standard model articles and have never been reviewed
- You want certainty about the price, so the valuation is not argued over at the worst possible time
- You have an old agreement in place and nobody has checked whether it is a cross option or a binding buy and sell
Real-world scenarios
Illustrative examples showing how the decision tends to play out. Businesses, valuations and figures are invented for illustration only, and are not quotes or a guarantee of cover.
The employee nobody could replace, and no shares to worry about
A logistics company is owned entirely by one director. Its operations manager, an employee with no shareholding, holds every supplier relationship and manages the fleet.
Read the full scenario
If he died, the directors estimate a £160,000 hit to gross profit while they recruited and rebuilt those relationships. Key person insurance sized to that figure would give the company cash to cope.
No buy sell agreement is needed for him, because he owns nothing to buy or sell.
- OwnershipOne director
- Profit at risk£160,000
- ShareholdingNone
Two owners, and the risk of a spouse inheriting a stake
Two sisters own a 60/40 stake in an events business valued at around £900,000. Neither works in a revenue-critical role that the other could not cover for a while, so lost profit is not the main worry. The worry is that one sister’s husband could inherit 40 per cent of the company.
Read the full scenario
A cross option agreement, drafted by a solicitor and funded by shareholder protection policies written under trust, gives each sister the option to buy and each estate the option to sell.
Key person insurance is a lower priority here, because the exposure is ownership rather than trading profit.
- Valuation£900,000
- Split60/40
- Main riskOwnership
The rule of thumb
If your co-owner died tomorrow, one keeps the lights on and the other keeps you in control of your own company.
Frequently asked questions
Is a buy sell agreement the same as key person insurance?
Do I need both a buy sell agreement and key person insurance?
What is the difference between a buy and sell agreement and a cross option agreement?
Who pays for a buy sell agreement?
What happens if I have the insurance but no agreement?
Related decision guides
Not sure whether you need one, the other or both?
Speak to a business protection specialist at IGotCover. We will look at who owns what, who drives the profit, and what any existing agreement actually says, then arrange the cover that funds it. Your solicitor drafts the agreement itself. Free, and with no obligation.
Get a Free Quote →Important information: This guide is for general information purposes only and does not constitute financial, legal, or tax advice. Tax treatment depends on individual circumstances and may change in the future. All figures and scenarios are illustrative only and do not represent a guarantee of cover, premium, or payout. Eligibility for cover is subject to insurer underwriting criteria and acceptance. You should seek advice from a qualified financial adviser and, where relevant, a solicitor or tax adviser before taking out any policy or entering into a legal agreement. Insurance provider benefits are subject to change. IGotCover is a trading name of Caspian Assured Ltd, authorised and regulated by the Financial Conduct Authority (FCA reference [FRN]).
