Sheila and Kendra had been best friends since eighth grade. After they graduated from college Sheila suggested they go into business together, and Kendra was all in. Ten years later they were the happy co-owners of a thriving theater arts company. Their partnership was a harmonious blend of talent, ambition and friendship, and they reveled in their shared success.
However, they never imagined – or planned for – the legal complexities that could arise from an unexpected event. And as best friends, they never gave any thought to the legal realities of their partnership. There was no clear exit strategy or business continuation plan in place. Beyond that, there was certainly no discussion of the unthinkable.
Then the unthinkable happened. At the age of just 33, Sheila died in a tragic car accident.
On top of her grief, Kendra, the surviving partner, found herself facing a daunting reality. Sheila’s husband, who had no desire to change careers and join her in the business, was now a single father and the owner of 50% of the theater arts company. To make up for his household’s lost income, he needed Kendra to buy out his half of the business.
This left Kendra in a precarious position. Since she didn’t happen to have a pile of cash sitting around, she would either have to take out a very large loan (assuming she even qualified for one), find a new business partner or sell a business that she loved. The possibility of that last option left Kendra in tears. She had just lost her best friend. She couldn’t face the idea of losing their business, too.
This was a terrible situation… but it didn’t have to be this way.
Life insurance could have secured the business’ future
Many people think of life insurance as something you put in place to provide financial support to your own family after your death. While life insurance certainly can and should be used in this way, there are many other uses for life insurance, too.
If you own a business, there are ways in which life insurance can support it. This includes:
- 1Key person insurance
- 2Business continuation
- 3Financial strength
Let’s explore each of these – what it is, how it’s used and how it could have helped Sheila and Kendra’s theater arts company.
#1: Key Person Insurance
What are “key people”?
Key people are people such as the owners and important members of the management team who play pivotal roles in your business’s day-to-day operations and long-term success. The value that these key people bring can come in various forms, such as:
To determine if someone is a “key person” in your business, ask the following questions:
What is key person insurance?
Key person insurance is a life insurance policy that provides financial protection for your business if a crucial employee or officer passes away. Key person insurance offers peace of mind, ensuring your business can weather the storm and continue to thrive even in the face of unexpected challenges.
In the hustle and bustle of entrepreneurship, it’s easy to overlook the potential risks associated with losing a key person. However, as Kendra learned after Sheila’s tragic death, neglecting to protect your business from such an event can have severe financial repercussions.
How does key person insurance work?
In Kendra’s situation, the proceeds from a life insurance policy could have been used to purchase Sheila’s half of the business from her husband.
#2: Business Continuation
There are a lot of “what if’s” in a business partnership
In Sheila and Kendra’s case, tragedy came in the form of the death of a business owner. What would have happened if Sheila had survived the car accident, but was so disabled that she could no longer work? Or what if Kendra had to move out of state due to family responsibilities, and therefore needed to exit the business? What if Sheila divorced and, because they lived in a “community property” state, was forced to pay her soon-to-be-ex for 25% of the business (i.e. half of Sheila’s 50% interest in the business). And so forth.
In the world of business partnerships, unforeseen circumstances can cast a shadow over even the most successful ventures.
A Buy-Sell Agreement can address the “what if’s”
A Buy-Sell Agreement is a crucial but often overlooked aspect of partnership planning. Also known as a “business will,” a Buy-Sell Agreement is a legally binding contract between business partners. It addresses vital financial aspects of partnership continuity, including:
Life insurance can be used to fund a Buy-Sell Agreement
A Buy-Sell Agreement must also establish funding mechanisms to facilitate the transfer of ownership. Where will the money come from? If you don’t address this issue, you can end up in a situation where it is not financially possible to implement the plans that everyone had agreed upon.
Quite often the answer to the funding dilemma is life insurance.
Life insurance is a common tool used to provide the necessary funds to buy out a partner’s share in the business. In this case you need to be sure to purchase a policy that will provide enough funds (in the case of a partner’s death) or cash value (for situations such as disability or divorce) to cover the anticipated financial needs.
#3: Financial Strength
Isn’t life insurance just for mitigating risks?
When it comes to managing your business’ financial health, insurance is not just about protection against loss. Few business owners realize this, but you can also use life insurance as a powerful tool to strengthen your business finances. Here’s how…
One of the most significant benefits of life insurance for business owners is that it can be used as collateral for a loan. Rather than having to put up personal assets (such as your home) as collateral, you can use a whole life or universal life insurance policy instead. In this case, the cash value that builds up in the insurance policy can be used to guarantee payment should you be unable to repay.
Collateralized loans often have lower interest rates and/or are available for larger loan amounts than those that are not collateralized. The long-term savings from a lower interest rate can be substantial!
Using life insurance as collateral can also increase your credit worthiness overall. Because you are now viewed as being more financially stable, you are more likely to be able to obtain a loan from a top lender that offers better rates. Without collateral, your only option may be to obtain funds at a much higher interest rate from a loan shark or subprime lender.
Life insurance can strengthen your business’ financial position
Beyond securing loans, life insurance can also strengthen your overall financial position. When you have life insurance in place, this adds to the strength and stability of the business. It provides…
By strategically incorporating life insurance into your financial planning, you can unlock new opportunities for growth and secure a brighter future for your business.
If you’d like to explore how life insurance can meet your business’s unique needs, please don’t hesitate to reach out to me. This is one of my areas of expertise. As a financial advisor and fiduciary with a focus on working with women business owners, I’m here for you. Let’s talk!
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