What Should A Small Business Insure?

Every business carries insurance. Some is required by law, such as unemployment insurance or coverage on vehicles. Most is optional, but there is “common sense” coverage and more esoteric policies intended to help you recover from company-threatening events. I’ll spend the most time on the biggest threat to a business, albeit the one owners least like to consider; the loss of the founder or key leadership in the company.

Before we go further, I am approaching this from a business owner’s point of view. I do not sell insurance, nor am I expert in all the various types of policies.

Common Sense Insurance

Property and casualty coverage falls into this category. You insure against damage or loss of equipment or the liability of an injury in the workplace. Workers’ Compensation is in the latter category, but you also need to think about visitors or customers in your business.

Most business add on to their P&C policies for employee dishonesty, managerial misbehavior (such as sexual harassment or wrongful termination) and product liability.

The next level up, and far less frequently found in small businesses, is Business Interruption coverage. These policies may reimburse you for loss of income or even temporary facilities to allow continued function. Obviously, the likelihood and cost of a disastrous event determines the premium, and it may be out of reach for many companies.

Benefits

We’ll skip over health insurance here, since it is no longer really an insurance model where many people contribute to cover an event that happens to only a few. Now it is merely a prepayment plan for the eventual cost of medical care that will be needed by almost everyone.

Two benefits that you may want to consider, however, are Disability and Long Term Care. Disability (both long-term and short-term) replaces a portion of your income if you can’t work. If you’ve amassed sufficient assets to support your family without income from the business it isn’t necessary. If you are, like many owners, reinvesting most of your profits back into the company, it could make sense.

Long Term Care insurance was discriminatory (could be offered only to select employees) when it first was introduced, but seems to have been encompassed by ERISA regulation since. None the less, consider the possibility that you, as the business owner, may be the most likely to benefit from such coverage. Such care is not covered by Medicare, and can quickly destroy substantial personal wealth.

Key Employee or Owner Coverage

What happens if you are hit by the proverbial bus? Will the company make it? Will your family receive the value of your ownership? While it may be worthwhile to cover the cost of replacing some key employees, let’s just focus on the owner.

Policies that pay upon the death of an owner have several common purposes:

• Funds for the company to buy out family ownership
• Working capital to help the business survive in the absence of the owner’s financial resources
• Paying for an executive search to replace the owner, or for investment banking professionals to sell the business

I typically see two mistakes when purchasing this type of coverage.

1. The owner forgets that a lender most likely has a first position on the proceeds to cover debt liability. They can (and often will) take the entire benefit payment to close out a credit line, leaving the company unable to operate and the family without any compensation.
2. To save on taxes, the owner has the business pay for the policy. Carriers are obligated to pay the beneficiary. You may have a buy/sell agreement that says your family gets bought out, but if your employees or partners are scrambling to keep the business alive without you, how enthusiastic will they be about surrendering their financial life preserver without a fight?

If you are in good health, these areas can each be covered by limited-term life policies. Don’t be shortsighted about saving a few tax dollars. The company can pay for the policies that cover debt and recruiting, while booking the premiums for a buy/sell as income to you.It’s worth the tax burden to make sure the money winds up where you intend it.

Finally, coverage for a disastrous ownership event is usually a team effort. Your broker can suggest policies, but have your tax advisor review their suitability, and your legal advisor make certain that other contracts (such as the buy/sell) fit with the coverage and beneficiaries.

Then, of course, just hope that you never need it.