Sunday 29th May, 2005


Insuring key persons

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Money Matters
with Raziah Ahmed

Olympic ski medallist, Bonnie St John Deane, and a right leg amputee since age five, speaking at the Trinidad Hilton a few years ago, said that success is not about never falling down, because we all fall down, it is really about how fast we get up!

Last week we began to look at failure as a cost in personal financial planning, and we looked at some of the costs that result from divorce, such as the splitting of mutual assets and savings and the cost of new acquisitions incurred as a result of relocating one partner, or establishing two family budgets.

In the case of non-traditional living arrangements among couples, separation can provide a major financial challenge. In this case, I am not sure to what extent there may be legal protection for rights to property. It may be prudent to ensure that real property is carefully titled while the going is good.

Another over-looked cost to individuals is the cost of failure of small family business. Historically such businesses get start-up cash from the accumulated personal savings of a few family members. Often there are no legal agreements that cover such partnerships.

In the event that such families enter into the legal framework of a limited liability company, the financial interests of the contributing family members are often not secured by adequate documentation. Should a key partner in the business die, the widow and orphans are likely to suffer financially.

It is advisable to draw up legal agreements that will secure all persons concerned with respect to the initial investments as well as in proportion to the importance of the roles individuals play in the day-to-day operations of the business. Such agreements should consider other contingencies, such as: one financial contributor wishing to withdraw his financial and other interests in the business.

Business can fail if adequate financial provisions are not in place to furnish a ready supply of cash, in that event, or if a key player in the business dies, leaving dependants.

Who pays premiums

One mechanism that can be used to supply a store of cash to pay off widows and orphans is the concept of key person insurance. Essentially this is life insurance on all the key persons. In the event of death, the policy proceeds can then be used to satisfy the family survivors who feel that part of their heritage is tied up in the company, and thus avoid interference in the business finances.

If key person insurance is being used, the tax implications must be clear. If the company is the payor and/or beneficiary, tax authorities may interpret that the policy proceeds belong to the company, may be classed as income, and subject to tax. It is imperative, therefore, to clearly establish who pays the premiums.

Illness of a key person in the business may also be the cause for the business to put out large sums of cash for health care. Adequate provision for this can be made through critical illness insurance for business partners. Again, clearly establish who pays the premiums to avoid tax consequences on the company.

Financial planning at the personal level, must always consider the long view, and develop the concept of strategic intent. But on the personal level we may differ from the business world. The Athletic goods company Nike, overtook Adidas, when it coined a strategic intent: "to experience the emotion of competition, winning, and crushing competitors."

Personal financial planning ought to have a more philosophical strategic intent; it has to do with the ultimate success of the family!

—Raziah Ahmed is a registered financial consultant

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