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Sole Trader Life Insurance – Key Man Cover

There are 3.3 million sole traders operating in the UK and around 1 in 7 of the workforce is self-employed. Unfortunately, it’s still the case that too few businesses cover the life of the owner. Sole trader life insurance is extremely valuable and can protect the business, the owner’s family and potentially any employees that work for them.

Main benefits of sole trader life insurance

A sole trader is one of the most important business assets. When a sole trader dies a number of financial and contractual obligations will still need to be fulfilled. This often falls to the spouse of next of kin if there is no succession plan in place.

With that comes the responsibility of closing down accounts, meeting loan repayments or paying them off, paying any staff redundancy pay, providing goods or services to the clients that have already purchased them. Even if the business were to stay open and a beneficiary were to take over the role, changing the business name, accounts and insurance policies which would take a lot of time and money.

The main benefit of sole trader life insurance is to provide financial support in order to facilitate these activities. It ensures that the family or beneficiaries are not burdened with the financial responsibility and suffer as a result.

Are sole traders eligible for relevant life cover?

With relevant life cover comes tax relief, which is why it’s such a popular policy for directors and owners looking for life insurance. However, relevant life cover is not suitable for sole traders. In order to offset the expenses against tax, it needs to be seen as a business expense, rather than for personal gain, which is difficult to prove if you’re a sole trader. The policy then no longer becomes relevant life and instead becomes a personal policy and cannot benefit from tax relief.

Personal life insurance policy

The obvious answer is to then opt for a personal life insurance policy. With this, the policy comes out of your own pocket out of your net salary. You’re also not able to claim it as a business expense and therefore, there are no tax benefits. The benefit of a personal life insurance policy is that the payout goes directly to your family to support them in the event of your death. The payout isn’t generally taxed either, so your family will get the full amount of cover you opted for.

Key man insurance cover for sole traders

If you’re looking for sole trader life insurance, you can look into key man insurance instead. A key man policy is owned by the sole proprietor, but it can be run through the business as a business expense. You will need to state that the policy is being used for revenue purposes i.e. to cover the impact lost by the death of the sole trader. For example, to cover cash flow, repay any staff on PAYE, recovering any lost revenue and to cover any loan repayments.

What are the tax benefits with key man for sole traders?

If you have sufficient evidence that your key man policy is for the purposes of the business, then the premiums are eligible for tax relief. You can offset the monthly premium payment against any corporation tax. With key man insurance, the payout is normally taxed instead. Therefore, it can be beneficial to take out a higher amount of cover to ensure that your beneficiaries get the amount you originally intended.

The payment can then be kept within the business or, alternatively, if the business were to close down from the loss of the sole trader, the family can be chosen as beneficiaries to handle the business affairs.

Not every key man protection plan is eligible

Unfortunately, the tax rules on a key man can be fairly complicated. Therefore, it’s worth knowing the guidelines and getting advice from the tax inspector, your accountant, a financial advisor or your local tax office. Often, decisions made purely for tax reasons aren’t usually the right ones. With sole traders, it is frequently the case that no distinction is made between the business and the sole trader, and then cover is determined as personal protection. The good news is, if the payments are not eligible for relief then the financial payout is likely to be treated as a capital receipt and therefore, unlikely to be taxed.

How is it set up?

A key man insurance policy is fairly easy to set up. A key man policy is normally written into a trust from the outset. The insured person can choose the beneficiaries they’d like the money to go towards. Medical guidelines for underwriting are typically the same as writing a personal policy. It is normally taken out on a term policy with a minimum of 5 years. There are also options to increase or decrease cover over time to meet your specific needs.

How much cover is required?

With sole trader life insurance, the level of cover is normally based on the financial impact of losing the individual. Often, this can mean closing down the business and enough cover should be taken out to facilitate this. A financial payout can ease the process as well as support the family during this time. Whether the benefits will be taxed can also affect the cover amount. If your premiums are eligible for tax relief, then often the payment will be similarly taxed. Therefore, a higher amount of cover might be required in order to counteract the payment.

Is critical illness included?

With key man insurance, you are normally covered for terminal illnesses. This is a serious illness with 12 months or less to live. Critical illnesses are something different. With key man insurance, you can have the option of adding critical illness cover to your policy. This will pay out a lump sum if you are diagnosed with a serious illness such as cancer, heart attack or stroke. This is designed to pay any health care bills or cover the business whilst you are unable to work.

Manual workers and life insurance

Manual workers are a higher risk factor when it comes to life insurance. Therefore, it is likely that your premiums are going to be a lot higher. There are ways to reduce the premiums such as taking out decreasing cover or extending the deferred period. You can also just choose to cover the essential expenses to reduce the overall monthly cost. However, it is important to have the right amount of cover that will help and support your family.

If you’d like a quote or to discuss your sole trader life insurance options, get in touch. At Business Cover Expert we provide free, qualified advice to find the right policy for you.