Uses of Life Insurance

Key Person Insurance

Key Person Insurance protects a business against financial loss caused by the death or disability of a vital member of the company, usually individuals possessing special managerial or technical skills or expertise.

EMPLOYEE BENEFIT PLANS

-Deferred Compensation: is an executive benefit an employer can use to pay a highly paid employee at a later date, such as upon disability, retirement, or death. -Salary Continuation Plan: works the same as deferred compensation except that the employer funds the plan rather than the employee. The employer establishes an agreement, whereby an employee will continue to receive income payments upon death, disability, or retirement. -Split-Dollar Plan: is an arrangement where an employer and an employee share in the cost of purchasing a life insurance policy on the employee. It is a method of buying insurance, not an insurance policy itself. Many times, it is a combination of term and whole life insurance. This plan typically allows the employee to choose the beneficiary. -Executive Bonus Plan: An executive bonus plan is a non-qualified employee benefit arrangement in which an employer pays a compensation bonus to a selected employee who uses the bonus payment to pay the premiums on a life insurance policy covering his or her life. The employee owns the policy personally.

Needs-Based Selling

Needs-Based Selling describes the ethical duty of a producer to sell a product that fits the prospect's needs rather than the producer's needs. An example of a needs-based violation is a prospect being sold insurance with the highest premium (and the most significant commission) instead of the proper coverage. By committing themselves to professionalism and the client's needs, insurance producers can act responsibly and ethically.

Split-Dollar Plans

Split-Dollar Plans are arrangements between two parties. Life insurance is written on one party's life who names the beneficiary of the net death benefits (death benefit less cash value). The other party is assigned the cash value, with both typically sharing premium payments.

BUSINESS USES OF LIFE INSURANCE

Buy-Sell agreements are also known as business continuation agreements. They are used to assure the business's ownership is appropriately transferred upon the death or disability of an owner or partner. Third-party ownership of life insurance policies is widely used in business insurance and estate- planning situations.

Cross-Purchase Plans

Cross-Purchase Plans are agreements that provide that upon a business owner's death, surviving owners will purchase the deceased's interest, often with funds from life insurance policies owned by each principal on the lives of all other principals.

EMPLOYEE BENEFIT PLANS

Deferred compensation is an executive benefit an employer can use to pay a highly paid employee at a later date, such as upon disability, retirement, or death. Salary Continuation Plan: works the same as deferred compensation except that the employer funds the plan rather than the employee. The employer establishes an agreement whereby an employee will continue to receive income payments upon death, disability, or retirement. The split-Dollar plan is an arrangement where an employer and an employee share in the cost of purchasing a life insurance policy on the employee. It is a method of buying insurance, not an insurance policy itself. Many times, it is a combination of term and whole life insurance.

Entity Plans

Entity Plans are agreements in which a business assumes the obligation of purchasing a deceased owner's interest in the business, thereby proportionately increasing the interests of surviving owners.

Human Life Value Approach

The Human Life Value Approach is an individual's economic worth, measured by the sum of the individual's future earnings devoted to the individual's family.

Human Needs Approach

The Human Needs Approach is a method for determining how much insurance protection a person should have by analyzing a family's or business's needs and objectives if the insured were to die, become disabled, or retire.

Buy-Sell Funding for Sole Proprietors

There is a two-step business continuation plan to keep the business running after the proprietor's death, whereby the employee takes over management of the business: Buy-Sell Plan: an attorney drafts a buy-sell plan stating the employee's agreement to purchase the proprietor's estate and sell the business at a price that has been agreed upon beforehand. Insurance Policy: the employee purchases a life insurance policy on the life of the proprietor. The employee is the policyowner, beneficiary, and pays the premiums. Upon the proprietor's death, the funds from the policy are used to buy the business.

DETERMINING THE PROPER INSURANCE AMOUNTS

Human Life Value Approach: Calculates the amount of money a person is expected to earn over his lifetime to determine the face amount of life insurance needed, thereby placing a dollar value on an individual's life. Needs Approach: A method of life insurance planning that identifies the needs of an individual and their dependents. This approach determines the total funds available to a family from all sources and subtracts the amount needed to meet their financial objectives. It takes into consideration:Final Expense FundHousing FundEducation FundMonthly IncomeEmergency FundIncome Needs if Disabled or IllRetirement IncomeEstate Conservation (using life insurance to enable heirs to pay estate taxes)NEEDS include ANY (ONE or THING) who is dependent on that person, charity, child, pet, The needs approach to personal life insurance planning may involve creating a lump sum to provide for such things as education, retirement, and charitable contributions. The needs approach to personal life insurance planning also includes the creation of an emergency reserve fund. This fund is designed primarily to cover the cost of unexpected expenses. The "needs approach" in life insurance is most useful in determining how much life insurance a client should apply for.

Chapter Summary

The Human Life Value Approach calculates the amount of money a person is expected to earn over his lifetime to determine the face amount of life insurance needed. The Needs Approach in life insurance is most useful in determining how much life insurance a client should apply for. When a sole proprietor dies, the business also dies. Third-party ownership of a life insurance policy is widely used in business insurance and estate-planning situations. Buy-Sell agreements are also known as business continuation agreements. There is a two-step business continuation plan to keep the business running after the proprietor's death:Buy-Sell PlanInsurance Policy There are two types of buy-sell agreements for partnerships:Cross-purchase plans, andEntity plans In a cross-purchase plan, each partner purchases, pays the premiums for, and is the beneficiary of a life insurance policy on each of the other partners. In an entity plan, the partnership itself agrees to buy the deceased partner's share of the business. A close corporation is legally separate from its owners. An entity plan is termed a stock redemption plan for close corporations. The purpose of key person insurance is to prevent the financial loss that may ensue when an owner, officer, or manager dies. Corporate-owned life insurance is generally treated as a deductible business expense. Deferred compensation is an executive benefit an employer can use to pay a highly paid employee at a later date. In a Salary Continuation Plan, the employer establishes an agreement, whereby an employee will continue to receive income payments upon death, disability, or retirement. The split-Dollar plan is an arrangement where an employer and an employee share in the cost of purchasing a life insurance policy on the employee. An executive bonus plan is a non-qualified employee benefit arrangement in which an employer pays a compensation bonus to a selected employee who uses the bonus payment to pay the premiums on a life insurance policy covering his or her life.

Buy-Sell Funding for Partnerships

There are two types of buy-sell agreements for partnerships: cross-purchase plans and entity plans. Cross-purchase plans: In a cross-purchase plan, each partner buys, pays the premiums, and is the beneficiary of a life insurance policy on each of the other partners. The amount of the policy is equivalent to each partner's share of the business. When one partner dies, each of the other partners receives the death benefit from the life insurance on the deceased partner, which is then used to buy the business's deceased partner's ownership. Entity plans: the partnership itself agrees to buy the deceased partner's share of the business. Entity plans are best for businesses with several partners. In this case, the business purchases, pays the premiums, and is the beneficiary of life insurance on each partner.

Buy-Sell Funding for Close Corporations

Unlike a partnership, a close corporation (i.e., an incorporated family business) is legally separate from its owners. It exists after one or more owners dies. A close corporation may purchase either buy-sell plans: cross-purchase or entity. The difference is that an entity plan is termed a stock redemption plan for close corporations. Close Corporation Cross-Purchase PlanSimilar to partnership cross-purchase plans, a close corporation cross-purchase plan requires surviving stockholders to purchase the deceased stockholder's interest in the company. The deceased stockholder's estate sells the interest to the surviving stockholders. The corporation is not part of the buy-sell plan. Each stockholder owns, pays the premiums, and is the beneficiary of life insurance on each of the other stockholders in an amount equal to his share of the corporation's purchase price. Close Corporation Stock Redemption PlanSimilar to the partnership entity plan, the corporation purchases, is the owner, pays the premiums, and is the beneficiary of life insurance policies on each stockholder. The amount of life insurance is equal to each stockholder's share of the corporation's purchase price. When a stockholder dies, the corporation purchases, or redeems, the deceased stockholder's share. Key Person Insurance: The purpose of key person insurance is to prevent the financial loss that may ensue when an owner, officer, or manager dies.It pays for finding and training a replacement if the key employee dies prematurely.The company purchases, owns, pays the premiums, and is the beneficiary of the key person's life insurance policy.The premiums are not deductible for income tax purposes. However, the death proceeds received by the business are not taxable.