If you own a business with partners, or your company depends heavily on one or two people, there’s a question worth answering before it’s forced on you: what happens to the business if one of those people dies unexpectedly? Life insurance isn’t only a family-protection tool. Used well, it’s also a way to keep a business running and ownership transitions orderly.
Two arrangements do most of the work: key person life insurance and buy-sell agreements funded with life insurance. Here’s how each works, how they differ, and what Nebraska business owners should ask before setting them up.
KEY TAKEAWAYS
- Key person insurance is a policy the business owns on a critical person’s life, with the business as beneficiary, to cover lost revenue, recruiting, and disruption after a death.
- A buy-sell agreement is a contract that sets who can buy a deceased owner’s share and at what price. Life insurance is the most common way to fund it.
- Premiums on business-owned life insurance are generally not tax-deductible, while the death benefit is generally received income-tax-free, subject to federal rules your accountant should confirm.
- Employer-owned policies have federal notice-and-consent requirements, so the insured employee must be told and agree in writing before the policy is issued.
What Is Key Person Life Insurance?
Key person (sometimes “key man”) coverage is a life insurance policy purchased by the business on the life of someone the company can’t easily replace: a founder, top salesperson, lead technician, or the owner who holds the client relationships. The business owns the policy, pays the premiums, and is the beneficiary.
The payout isn’t for the family. It gives the company cash to cover the gap, such as lost sales, recruiting and training a replacement, paying down debt a lender may call in, or simply keeping the doors open through a rough stretch. It sits alongside the rest of your life insurance options, but it serves the company rather than a household.
Good to Know
A common way to size key person coverage is to estimate what the business would lose and spend over the 1 to 3 years it would take to replace that person’s contribution. There’s no single formula, so it’s worth working through the numbers with your agent and accountant.
What Is a Buy-Sell Agreement?
A buy-sell agreement is a legal contract among co-owners that says what happens to an owner’s share after a triggering event such as death, disability, or retirement. It typically sets a price or valuation method and requires the remaining owners or the company to buy the share. Without one, a deceased partner’s share may pass to a spouse or heirs who have no interest in running the business, or who disagree with the surviving owners about its value.
Life insurance is the usual funding source because it provides cash exactly when the buyout is needed. There are two main structures:
- Cross-purchase: each owner owns a policy on each of the other owners. When one dies, the surviving owners collect and use the proceeds to buy the deceased owner’s share from the estate. With many owners this means many policies.
- Entity redemption: the company owns one policy on each owner and uses the proceeds to buy back the deceased owner’s share. It’s simpler to administer, especially with several owners.
Which one fits depends on the number of owners, their ages and health, and the tax and legal picture. Many businesses also use hybrid approaches.
Watch Out
Moving an existing life insurance policy to another party for value can make part of the death benefit taxable under the federal “transfer for value” rule, with limited exceptions. Don’t reassign policies while restructuring a buy-sell without checking with your attorney or CPA first.
Tax Basics to Know
In general, premiums a business pays on a policy where it is the beneficiary are not deductible, and the death benefit is generally received free of federal income tax. Employer-owned life insurance has a specific requirement under federal tax law (Section 101(j)): before the policy is issued, the employer must notify the employee in writing that it intends to insure their life and the maximum face amount, and the employee must consent in writing. The employer reports these policies to the IRS on Form 8925. Without meeting those requirements, a portion of the death benefit can become taxable.
Tax treatment can change and depends on the entity type and facts, so treat this as an overview and confirm details with your CPA or attorney.
Next Step
Start with two questions: who could the business not survive losing, and do you have a signed buy-sell agreement? If either answer is “I’m not sure,” that’s the place to start a conversation with your agent, attorney, and accountant.
Who Should Consider This?
These tools make sense for partnerships, LLCs, and closely held corporations with two or more owners, and for businesses where one person’s skills or relationships drive revenue. Sole owners with employees, a loan, or a plan to sell the business someday can also benefit, since the same funding can support a transition or protect lenders. Business coverage works alongside, not instead of, your personal protection and family life insurance.
WE CAN HELP.
Protect the Business Behind Your Family’s Income
Jeff Munns Agency can walk you through key person coverage and buy-sell funding options for your Lincoln-area business.
Frequently Asked Questions
What is key person life insurance?
It’s a life insurance policy a business buys on a critical owner or employee. The business pays the premiums and receives the death benefit, which helps cover lost revenue and the cost of replacing that person.
Who owns a key person policy?
The business owns the policy and is the beneficiary. The insured employee’s family does not receive the benefit unless separate coverage is arranged.
What is the difference between cross-purchase and entity redemption buy-sell agreements?
In a cross-purchase, the owners hold policies on each other and buy the deceased owner’s share personally. In an entity redemption, the company holds the policies and buys the share back itself. Redemption usually needs fewer policies, which matters with several owners.
Are key person life insurance premiums tax deductible?
Generally no, when the business is the beneficiary of the policy. The death benefit is generally received income-tax-free, but employer-owned policies must meet federal notice-and-consent rules. Confirm your situation with a CPA.
Does the employee have to agree to being insured?
Yes. For employer-owned life insurance, the employer must give written notice and get the employee’s written consent before the policy is issued to preserve the tax-free treatment of the death benefit.
Jeff Munns, Licensed Insurance Agent — October 2026. Jeff Munns Agency serves Lincoln, Nebraska and surrounding areas. Content is for informational purposes only and does not constitute insurance advice. Tax and legal treatment varies by situation. Consult your CPA or attorney and your agent for guidance specific to your situation.
Note: The examples and descriptions used throughout this article are for general information purposes only, not legal advice. All scenarios presented are fictional, any similarity is merely coincidental. Coverage is not guaranteed, rather they are subject to the decision of insurance underwriters and other authorities. Policy/coverage availability and limits can vary based on person, location and other variables. Please consult your insurance agent and review your insurance policies to understand your existing coverage and/or potential coverage options. Read our disclaimer.
