Pros and Cons of Corporate Life Insurance Policy

Many companies acknowledge that their employee’s skill set is essential for running their business. Therefore, they obtain life insurance policies for their employees, primarily senior-level executives or other employees whose services are critical to the company. The company pays for the premiums. Doing so ensures that its financial interests are protected, and economic losses are avoided if death occurs to the insured employees. The company receives a full death benefit if the insured employee dies. Companies are obliged by law to inform the employees about the policy and who the beneficiaries are in writing. Keep reading to learn more about corporate-owned life insurance.

A corporate life insurance policy, as with any other policy, has its advantages and disadvantages. Below are some pros and cons of corporate life insurance.

The pros involved with corporate life insurance include:

• If the business is co-owned and one of the shareholders dies, most times, the surviving beneficiaries are no longer interested in continuing to get involved with the business; the proceeds can be used to buy out the shares owned by the deceased shareholder or the beneficiaries. This ensures the company has enough money for its daily operations and enables the deceased’s family to get some money for their personal use. This also provides a succession plan as it explains what is to happen in case of a particular shareholder’s death.it helps prevent conflicts that may arise as a result.

• The death of an employee whose services are critical for the company’s running could put the company in a significant financial setback. It is always challenging to find a suitable replacement to fill the gap left by the deceased employee. Even if they are found, it may take them weeks, months, or an unknown amount of time to adjust and start operating on the previous employee’s levels. The insurance provides the money needed to repay debts, hire and train new employees, prevent losses, and maintain the needed working capital during that period.

• Suppose the company is heavily reliant on the skills, leadership, knowledge, or reputation of one or several employees, and their demise could end the business. In that case, a life insurance policy could provide a lifeline for the shareholders as they stand to benefit from the proceeds.

• Loans—financial institutions require companies to give personal guarantees by the owner to secure loans. This means that the company assets are liable to any outstanding debts that the business may not pay; therefore, a life insurance policy becomes safer collateral. Some institutions have a life insurance policy as one of their requirements to secure a loan, and so having it improves the company’s ability to acquire financing.

• Cash value options—owners have a right to utilize the policy’s cash value, which helps them have more cash flow.

• Tax-free growth—corporate life insurance policy allows minimization of taxes as it allows its value to grow on a tax-exempt basis plus the tax-free death benefit.

• Lower cost of premiums—when the corporation owns the policy, it pays the premiums from corporate funds, which are only subject to tax at the corporate level. Corporate tax usually is lower than personal tax. Premiums that are paid with funds earned personally through a corporation are subject to a higher tax. If they are received as dividends, then they are taxed at both the personal and corporate levels.

The disadvantages of corporate life insurance include:

• If the insured or the shareholder decides to leave the company, tax complications emerge, and the policy will need to be valued by an actuary. Leaving it with the company only benefits the remaining shareholders, which disadvantages the client as they may find it challenging to get additional insurance for his personal needs since he may be uninsurable or only insurable at higher rates.

• Claims by lenders could become a threat to the policy or its proceeds. A corporate-owned life insurance policy is protected from creditors if the company names an irrevocable beneficiary to receive the proceeds. However, suppose the company wants to post the death without the adjusted cost basis to its dividend account. In that case, it will have to name itself as the beneficiary leaving the policy proceeds exposed to reclaiming by the creditors.

• Policy control—sole shareholder companies do not have issues over who controls the corporation, but with most companies with several shareholders, each with several ownership rights, decisions on asset maintenance are influenced mainly by the shareholders with a majority of shares. The insured might not always be among those with the most shares and thus might not influence how the assets of the company, including life insurance policies, are to be used. The corporate life insurance policy’s intended intention is not guaranteed unless there is an agreement that is kept up to date.

• Some tax advantages may not exist. Usually, dividends are paid to the company’s capital dividend account and paid to the shareholders tax-free. However, suppose the capital dividend account reads negative when the insured dies. In that case, the proceeds going to shareholders’ accounts will be reduced or diminished if the negative balance is higher than the policy death benefits.

• New shareholders. If the company has grown and, in the process, new shareholders have come in, the original intention of having almost all the death benefits go into the deceased shareholder’s capital dividend account may be frustrated.

Unnecessary capital gains tax; small business corporations are exempted from the lifetime $750000 capital gain. This could save a shareholder about $170000 if they decide to sell the shares. To qualify for the exemption, there is a requirement that 90% of the fair market value must be an inactive business. 50% of the fair market value must have been used in the two years leading to the gain. Corporate life insurance policy cash values are passive assets and do not count in the requirements. This could put the company’s operating status as a small business corporation.