If you are diagnosed with an illness that leaves you unable to work, it could threaten everything you have worked so hard to build over the years. Vinku Shah looks at your options…

A key person is an individual who contributes significantly to the success of the business due to their skills, knowledge, experience, and business acumen. In most community pharmacy businesses, which are usually owner managed, the key person(s) are the directors who are also usually the owners of the business.

In large organisations, key person(s) could be found at various levels of the overall organisation structure such as managing directors, top salespeople, or technical experts. If you are diagnosed with a critical illness that results in you being unable to work, the financial security of your company, your co-directors and family members involved, could be jeopardised. It could also threaten everything you have worked so hard to build over the years.

Where you own shares in the business, what would happen to your shares in case of critical illness or death? In the event of your death, your family would inherit your shares, but it would be impossible for them to take over your role in the business as they may not have the necessary skills or qualifications. There are few other options available: 

• The family can take a share of profits from the company, but this might be much less if the company is struggling because of your absence. 
• The family could wind up the company and receive a share if its residual value.
• Sell the shares to your co-directors but they may not have the funds available to be able to purchase your shares.
• Sell the business on the open market but this would depend on finding a buyer who is prepared to pay the asking price and this could be a long, difficult, and costly process.

These options may not provide you or your family the full financial value of your shareholding or the financial security you may have intended to provide. However, with some forward planning, you could safeguard the financial future of the business and your family.

As it is not a legal requirement to protect a business from the risk of losing its key person(s), business owners often overlook this. Key person(s) insurance protects the business from loss of profits if its key members or employees become terminally or critically ill or die.

Just like your family members would be named beneficiaries on your life insurance policy, the business will be the beneficiary on the key person(s) insurance and will receive a lumpsum payment when a claim is made.  

The proceeds of the key person(s) insurance can be used for: 

• Lost income from the loss of key person(s).
• Operational costs until a suitable replacement is found.
• Training and replacement hiring costs.
• In case of a partnership, the proceeds can be used to purchase the share of the former partner. 
• Settling business debts, distributions to owners, settle employment liabilities in case of the business winding up.

Insurance costs 

You would need to purchase a key person(s) insurance for each key employee separately and the cost of the premiums will depend on a range of factors such as, age of the insured, health, lifestyle, pre-existing conditions, etc.  

Tax treatment 

It is worth noting that the cost of the insurance is a tax-deductible expense in computing the taxable profits of the business provided that the company has taken out the policy for its employee and the insurance is for the loss of profits resulting from loss of that key employee.

The insurance must be a term policy providing cover for that employee only during the term of the policy and only while the employee is working for the company. Any receipt on a claim will then be treated as a trading receipt. 

Level of cover 

The level of cover required would depend on several factors: 

• The size of the business and its workforce – a family-owned business may need to take out a larger cover to ensure business continuity if a key person passes away, but a sole trader may only need cover sufficient to pay off any debts of the business.
• The keyperson(s) annual remuneration – as a rule of the thumb, a multiple of five should be applied to the key person’s remuneration as a minimum. If the key person is being paid a remuneration of let us say, £100,000, then the level of cover should be at least £500,000.
• Cost of replacing that member of the team including costs to train the replacement should also be considered and added onto the cover.
• How much business the key person brings to the business – if it is feasible to work out the revenue or profits that the insured person generates for the business, multiply the figure by the number of years the company will take to replace those earnings.

There are various companies that offer this insurance with add-ons such as critical illness cover, etc. but you should approach at least three different companies and seek independent advice so that you make an informed decision.

The monthly premiums paid may seem costly, but should an unfortunate event occur that the business suffers a loss of its key personnel, then you will have some form of financial protection and ensure the survival of your business. Key person(s) insurance is also a requirement by lenders for those acquiring community pharmacy businesses. 

Vinku Shah is a partner at Silver Levene.