As a small-business owner, you’re responsible for two families: the one you have at home, and the one you have through work. No matter what your business, a well-conceived insurance and benefits program is essential. If you die or become disabled, insurance can help protect your family and your business.
To get a sense of how well you’ve planned for these responsibilities, ask yourself these questions:
- What will happen to my business and family if I die or become disabled?
- What will happen if certain key employees die or become permanently disabled?
- How can I attract and retain the best employees?
- How can I help ensure that my business will be able to weather unforeseen financial hardships?
- What will happen to my business when I retire?
Explore this section to learn more about how insurance can help protect your business while giving you a competitive edge.
One of the first things any business owner needs to consider is how to protect against events that may threaten the future of the business, like the death or disability of a proprietor, partner or key employee.
- Individual Life Insurance
Let’s start with the worst-case scenario: the death of one of the business owners. What will happen to your business if you die? Many small-business owners take out loans to help grow their businesses, and often secure these loans with personal assets. If you have business loans and were to die before they were paid off, you might thinkempl your family could sell or liquidate the business to cover the debts and provide financial security for them.
In reality, this rarely happens. When the family is forced to sell the business quickly, they may have to sell at a discount or during market conditions that make the business less attractive. In other cases, the business may be worth very little without the proprietor or partner. Individual life insurance can protect your family by providing funds to cover debts, ongoing living expenses and future plans, in the event that something happens to you.
- Disability Insurance
Disability insurance replaces a portion of your income if you were to become sick or injured and unable to work. It’s an important type of insurance coverage that is often overlooked, as few people stop to consider what would happen to their business and their personal income if they were unable to work. In addition, business owners should consider business overhead insurance, which reimburses a business for overhead expenses in the event a business owner becomes totally disabled. A policy typically pays benefits for one to two years and helps cover expenses like salaries, taxes, employee benefits, rent, mortgage, utilities, equipment, malpractice premiums, etc. That could mean the difference between a business surviving or shuttering its doors.
- Buy-Sell Agreements
Life insurance also can be structured to fund a buy-sell agreement. This is a contract among owners to buy a deceased owner’s share of the business at a previously agreed upon price in the event of death, disability or retirement.
Why are these agreements so important? You might think that if you die, your family could maintain their income by running the business themselves or by hiring someone to handle the day-to-day management. The fact is, your loved ones may not have the skills or the desire for the job, and your co-owners may not welcome the idea of an unintended partner. With a properly structured and funded buy-sell agreement, your business partners won’t have to scramble to come up with the money to buy out your share of the business, and you’ll be guaranteed that your survivors will be compensated fairly and promptly.
Buy-sell agreements are typically funded by life insurance policies purchased on the lives of each of the business owners. The amount is usually specified in a contract created with the help of an attorney. You can enter into a buy-sell agreement at any time, but it often makes sense to do so when a business is formed or when new owners are brought into the business. Because business values can fluctuate, it’s important to review the contract with your accountant at least once per year or to include a calculation method in the agreement. Also be sure the insurance coverage funding the agreement is up to date.
Business owners can also insure against the risk of becoming disabled and unable to work. In this case, disability income buyout insurance would fund the buy-sell agreement, allowing the disabled owners to be bought out, typically after a one-year waiting period.
- Key Person Insurance
Key person insurance is another essential component of a smart business continuation plan. Key person insurance is life or disability insurance purchased by the business on such an employee and payable to the business. When a key person dies or becomes disabled, insurance can help make up for lost sales or earnings or cover the cost of finding or training a replacement.
A good benefits program is essential for attracting new employees and retaining current ones. Surveys show that three in four workers consider benefits a decisive factor in weighing new job opportunities. Benefits like health and disability insurance and retirement plans are very desirable to employees, but they can also be costly to employers. That’s why many employers share the costs with their employees. There are also voluntary benefit programs that allow employees to purchase or increase their benefits themselves, often through automatic payroll deduction. An insurance professional can help you select the right mix of benefits and guide you through the various plan options. This section highlights the main benefit plans you’ll want to consider in crafting your employee benefits program.
- Health Insurance
The one thing almost every employee wants and needs is health insurance. The most common plans are health maintenance organizations (HMOs), preferred provider organizations (PPOs), point of service (POS) and indemnity plans. Another option for businesses that want to provide employees with health insurance coverage is to offer them access to a health savings account (HSA), which is a tax-free medical savings account that must be paired with a high deductible health insurance plan (HDHP).
Choosing the right plan for you and your employees is a complicated decision. The Patient Protection and Affordable Care Act, which was signed into law in March 2010, made significant changes to the health insurance industry. Many provisions are complex and many more are subject to both state and federal rules and regulations. Because of the changing requirements that employers must follow, many to be phased in from now until 2018, it makes sense to consult with a benefits specialist who can guide you through the process.
- Life Insurance
Compared with other popular benefits, a basic life insurance benefit is relatively inexpensive to provide. Some employers provide a modest lump sum benefit (e.g., $10,000 or $20,000), while others offer employees a multiple of their income (e.g., one or two times their annual salary). For those employees who only carry group insurance, the mean coverage is roughly $100,000. Because many employees have needs greater than that, you should consider giving employees the option to purchase additional coverage through your group plan. It doesn’t cost more to offer this option, and it will give your employees the opportunity to get the right amount of coverage for their specific needs.
- Disability Insurance
Disability insurance is one of the least understood types of insurance, but also one of the most important. Many people mistakenly believe that workers who become disabled will receive disabilitsy income either through Social Security, Worker’s Compensation or both. But Social Security disability benefits are often quite restrictive and employees don’t qualify for Worker’s Compensation unless the disabling illness or injury happened on the job.
Employer-sponsored disability income insurance is much less restrictive and falls into two main categories. Short-term disability insurance plans usually offer benefits that are paid for a maximum of 26 weeks, while long-term disability insurance benefits generally continue for the length of the disability or until retirement age. Cost can be affected by adjusting the maximum monthly benefit, benefit periods and waiting periods before benefits begin. This is another area where it’s possible to allow employees to purchase additional coverage either by purchasing increased benefits under the group program or through a voluntary benefit program.
- Dental and Vision
Once offered by only a few employers, dental insurance is now offered by 40 percent of small businesses. Dental insurance plans generally cover part or all of the cost of cleaning, X-rays, annual oral exams and fillings. Some plans also cover major items such as crowns and restorative work. Most plans do not cover orthodontics. In some areas, dental maintenance organizations (DMOs) may be available. They function in much the same way as medical HMOs and may be less expensive than traditional plans.
Vision plans have also grown in popularity. A typical vision plan includes an annual routine eye exam, an annual contribution towards prescription eyewear, and a glaucoma screening.
- Retirement Plans
With the exception of health insurance, retirement plans are the benefit employees desire most. The good news is that small-business owners have a variety of plan options from which to choose.
Most retirement plans fall into one of two major categories:
Defined Benefit plans
Commonly known as pension plans, defined benefit plans require employers to pay a fixed annual amount to eligible employees during their retirement years. They allow employers a high degree of tax savings, and in good times, favorable growth rates can reduce or eliminate the employer’s contribution. However, they can be costly to administer and may require higher contributions in times of poor or negative investment returns. Because of the high costs to employers, defined benefit plans are few and far between today. The trend has been toward defined contribution plans, where employees assume a much greater responsibility for contributing to their retirement savings.
Defined Contribution plans
These plans allow employers and employees to contribute a set amount or percentage of pay, and retirement benefits are based on the actual performance of the funds. These plans give the employer better cost control as the contribution is defined. The amount an employee can contribute is based on a percentage of their salary up to a maximum amount defined by law. Defined contribution plans can take many forms, including:
- 401(k) and Profit-Sharing Plans –401(k) plans help employees save for retirement by allowing them to set aside a portion of their salary that is often matched in whole or in part by their employers. The employee is not taxed on this income until withdrawals are made, and the employer’s cost is a tax-deductible business expense. Employees can select the investment vehicles into which their funds are deposited. Retirement benefits are not guaranteed, however, and while the sum at age 65 may be substantial, it can also be much less if the employee has made poor investment choices or the stock and bond markets have not performed as well as expected.Employees can borrow from their 401(k) plans for education, a new home, a medical emergency etc., although the loan must be repaid within a certain specified period of time. Sometimes employers elect to integrate the 401(k) plan with a discretionary profit sharing plan that can increase the employer’s retirement contribution for employees.
- SIMPLE Plans – This option for companies with 100 or fewer employees who do not maintain any other retirement plan. It allows an employee to contribute a percentage of his or her salary up to a fixed maximum to an Individual Retirement Account (IRA). The employer may also make contributions on a fixed or matching basis, which are tax deductible. SIMPLE plans are easy to set up, require minimal paperwork and have low administrative costs. Plus, employees retain their SIMPLE account even if they change jobs.
- Simplified Employee Pensions (SEPs) – Created with the small-business owner in mind, SEPs allow employers to set up IRAs for themselves and their employees. The employer contributes a percentage of each employee’s salary each year, up to a fixed maximum. SEPs have low administrative costs, and can even be started by those who are self-employed. Since the business owner can decide how much to contribute each year, this type of plan is often the answer for businesses that may want to adjust their contribution based on the health of the business.
- Payroll Deduction IRAs – This type of plan, which requires no employer contribution, is designed solely to help employees fund their IRAs. Employers set up a payroll deduction system that allows employees to regularly contribute to their IRAs. Contributions are tax-deductible to the employee, just as they would be with traditional IRA contributions.
Executive benefits help you offer your best employees a higher level of benefits and compensation, along with significant tax advantages. They also compensate for the fact that most 401(k) programs restrict the ability of executives to accumulate enough money on a tax-favored basis to fund the retirement lifestyle they desire.
Here are a few types of executive benefits that can help separate your company from the competition.
- Deferred Compensation Plans (including SERPs)
This is a selective employee benefit that allows business owners to help key employees defer income and the taxes due on that income until a later date, usually retirement. The plan can also be used to provide executives with additional life and disability benefits in addition to the basic coverage that all employees receive.
One option is a supplemental executive retirement plan. A SERP is a non-qualified deferred compensation agreement between a company and select key employees in which the business agrees to provide a specified benefit amount at retirement, or should the employee die, become disabled or terminate employment. When paid, the benefit becomes taxable as income for the executive and tax deductible for the company. Some plans also promise to pay the executive’s spouse a benefit if the executive were to die before retirement. Often life and disability policies are used to help fund the payments.
- Section 162 Plan
Often called “Executive Bonus Plans,” section 162 plans are a simple way to reward your top people. Under this type of plan, the employee purchases a permanent life insurance policy on his or her life. The company pays the executive a bonus equal to the premium, which is usually considered taxable income to the employee and tax-deductible to the employer. The employee controls the policy, including the death benefit and the cash value, which accumulates tax-free until it is withdrawn.
- Supplemental Disability Income Insurance
Most group long-term disability policies provide roughly 60% of an employee’s income, up to a stated maximum. For most employees, two-thirds of their income won’t exceed the employer’s maximum benefit. But for highly compensated executives, the maximum benefit may amount to less than 50% of their take-home pay in the event of a disability. To address this problem, employers often purchase additional individual disability income policies on these executives to bring their total benefit, on a percentage basis, up to the same level of all other employees.