Setting up your own business is a courageous move; giving up the certainty of a monthly salary and other benefits is a big leap. The motivation may be to ultimately earn more, to have more freedom or to pursue an opportunity that couldn’t be ignored.
Giving up security is one thing if you are free and single but what if you have a family? What will happen to them if you can’t work or worse, die?
The emotional turmoil will be bad enough without the added financial stress that will inevitably follow. An income will be lost but bills will still need to be paid and a surviving spouse or partner may not be in the right mindset to work themselves.
The future of the company will need to be considered too, what will it mean for any remaining directors and employees?
We like to think we are bulletproof but accidents and illnesses happen. It may not be life-threatening but anything serious enough to stop you earning may have financial ramifications.
Fortunately, while the grief can’t be removed, with a bit of planning and preparation the financial stress can be. And, for business owners, it can be done tax efficiently too.
Emergency Funds
Most people understand the importance of having an emergency fund but too many people pay only lip service to it. You will be thankful for having a pot of cash available to you in an emergency; it may be seen as ‘dead’ money, particularly after inflation, but it will save you from having to borrow at a much greater cost. The accepted rule of thumb is to have three to six months of essential expenditure available to have sufficient cover.
Protecting Income
An emergency fund can cover short-term loss of income but what about if the loss of income lasts longer, potentially years? Income protection policies are designed to cover this risk. Policies are set up for a predetermined term and, as with any insurance, a premium is paid monthly.
The amount of the premium will depend upon your age, amount of cover required, term and whether there are any lifestyle or health factors that would make you a higher risk. In the event of a claim the policy pays out a monthly income until it is possible to return to work or until the end of the term.
Income protection policies are suitable for anyone of working age but business owners should check whether dividend history will be taken into account. If it is ad-hoc it may limit cover. Additionally, insurers will expect employment and earnings to cease; should a business owner continue to work in any capacity or continue to receive a salary or dividends a claim may be refused.
Protecting Against Death
Life assurance provides a lump sum payment on the death of a life assured which can be used by the surviving family to pay off debts or other costs that may occur should the worst happen. Or, the payment could be invested for future use, there is no restriction on how it is used.
Relevant Life policies are an efficient way for business owners set up policies for themselves or employees in companies that are too small to warrant a larger group life scheme. The advantage of setting up cover via the business is that the premiums can be offset against corporation tax.
As with income protection, the premiums will depend upon the amount of cover required, the length of the cover, age and health and lifestyle factors. It doesn’t have to be set up to benefit surviving family members only either, it is commonly used to pay off outstanding business loans that may be called in on the death of a key shareholder and will otherwise threaten the survival of the business.
Protecting Surviving Shareholders
Surviving family members are not the only people who may be affected by the death of a business owner, there may be other shareholders too. The shares of the deceased business owner would be inherited by a surviving spouse. This gives them the legal right to be included in the decision-making and be remunerated in line with the original shareholders. This situation is likely to be problematic for all shareholders, particularly if the spouse doesn’t want to be involved, or does but doesn’t have the expertise to do so.
Shareholder protection exists to avoid such conflicts occurring. Legally binding agreements are set up in advance so that, on the death of a shareholder, the shares are purchased by the surviving shareholders from the surviving spouse. At the same time, a shareholder protection policy is established to provide the necessary capital to buy out the spouse. The result is that the spouse receives a capital value and the shareholders can continue to run the business on their terms.
Protecting Key Employees
The future of the business may not rest just on the survival of owners. Small companies may be reliant upon one or two key employees who, if they died or were diagnosed with a serious illness, may result in the loss of key contracts, banks calling in loans or buyers and suppliers requiring a change in terms. It may also incur costs in recruiting a replacement.
Key Person insurance policies are set up to cover this risk by providing a capital sum in the event of a key employee dying or being diagnosed with a serious or terminal illness.
As with any insurance, it is not pleasant to have to think about the need to have it but being proactive and establishing and paying for an appropriate level of cover is much less stressful than having to deal with the implications of not having cover but needing it.
Photo by Juliane Liebermann on Unsplash
