Key Man Insurance Calculator

What key-person insurance actually is

Key-person insurance, sometimes still called key-man insurance, is a life insurance policy the business owns, pays for, and receives the proceeds from. The insured is an individual whose loss would materially harm the enterprise. That is usually a founder, a chief operator, a lead rainmaker, or a specialized technical lead who represents a large share of institutional knowledge. Related reading: Key man life insurance.

Three sizing methods, layered

The most defensible way to size coverage is to layer three approaches. The salary multiple method takes annual compensation times a multiple, typically five to ten, as a starting anchor. The replacement-cost method estimates the cost to recruit, sign, and ramp a comparable operator, which for senior roles routinely reaches six figures on its own. The contribution-to-earnings method estimates the profit or margin the key person's presence produces annually, then multiplies by the expected recovery period. Combining these produces a number that stands up to a lender or a board conversation.

Loan-driven coverage

Many commercial lenders and most SBA loans require key-person coverage as a condition of funding. The lender is usually named as a collateral assignee on a policy for the loan amount and the loan term. The calculator's loan component reflects that requirement. Coverage tied to a specific loan can be reduced as the loan amortizes, though many practitioners keep the full amount in force because the underwriting cost has already been paid.

Section 101(j) notice and consent

Employer-owned life insurance issued after 2006 must satisfy Internal Revenue Code Section 101(j) for the death proceeds to be received income-tax free at the entity level. The rule requires written notice to the insured that the employer intends to own the policy and to be the beneficiary, and written consent from the insured, both before issue. It also requires annual reporting on Form 8925. Skipping the notice-and-consent step at issue converts the death benefit into ordinary taxable income to the employer, and the mistake cannot be fixed retroactively.

Tax treatment in plain terms

Premiums on employer-owned life insurance are generally not deductible because the business is the beneficiary. Cash value grows on a tax-deferred basis. Death proceeds are typically received income-tax free at the corporate level when Section 101(j) is satisfied. C-corporations should still evaluate corporate alternative minimum tax exposure, which can apply to certain large policies.

How the policy funds the recovery

When the key person dies, the business receives the proceeds and typically deploys them across three fronts. Retire or pay down debt so lenders do not accelerate. Fund the recruiting search and interim leadership needed to keep the operation running. Cover the profit gap while a successor gets up to speed. Written into the corporate minutes as intended uses, the policy stops being an abstract number on the balance sheet and starts being a plan.