Protect your largest asset

Life insurance benefits are easy to understand. If an insured person dies, their named beneficiary receives a monetary benefit. Disability risks are far less tangible. None of us believe we will have the misfortune of suffering from a disability and many of us never will. However, the reality is that during our working years, the risk of disability is far greater than the risk of death.

Research shows that many small-business owners are prepared for the death of a business partner, however only a surprisingly low 15 percent are prepared for the disability of a business partner, which is a risk two to three times greater than death during the working years. When advanced preparations for such a possibility are not taken, the results are not only emotionally devastating, but financially devastating as well.

Prince Associates and the Inc. Business Owners Council of Inc. Magazine surveyed more than 1,400 business owners. Here are some findings that may surprise you if you own a small business:

n Only 40.7 percent of business owners were prepared for the death of a partner.

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n Only 14.8 percent were prepared for the disability of a partner.

n And 30.1 percent cited “they will work it out” as a solution in the event of death or disability of a partner.

n Lack of time is often cited as a key reason businesses have not prepared for either death or disability of a partner.

The first step in preparing your business for a death or disability of a key partner is getting your governing documents in order. For my company, it consisted of a one-hour meeting with our law firm, the review and revision of various documents and then execution. Altogether, it took about one day of my time over the course of two months. The total cost for our attorney in northern New Jersey was about $5,000. I know a ton of business owners and leaders. I can’t think of a single one of them that wants to be partners with their business partner’s spouse, but that is exactly what will happen if their business partner dies or becomes disabled and the legal framework is not in place to transition the business properly.

Once you get your legal house in order and lay out your succession plan, you then need to fund the plans with appropriate insurance, or make the decision to self-insure all or part of the risk.

Most business owners that create shareholder agreements fund the death risk by purchasing life insurance, but the majority of those business owners responsible enough to create the governing documents and fund the risk of death FAIL to hedge against their greater risk of a business partner’s disability.

The cost of transferring a disability risk to an insurance company generally runs from .25 percent of the face amount of the coverage, up to around 1 percent of the face amount, depending on age.

The need for small businesses to look at disability insurance as their business life preserver in the event their corporate ship starts to list can’t be understated. Some key items to keep in mind:

n The largest asset that exists on the personal balance sheet for entrepreneurs tends to be the equity in their business.

n Proper buy-sell planning with well-constructed documents and properly funded and updated insurance plans are a must.

n Although most businesses have life insurance protection, the greater risk of disability often goes unfunded as traditional disability carriers lack the ability to deploy the necessary capacity.

Most closely held businesses are highly dependent on the vision, relationships and knowledge held by their equity owners. Entrepreneurs create a foundation of human capital that drives the success of the company.

Deaths and disabilities within these groups virtually all end in disaster for both the company and shareholder’s family if there is a poorly designed and/or poorly funded buy-sell agreement, or worse yet, no agreement at all. The sad reality is that few business owners are prepared for the death or disability of a partner. •

Edward A. Tafaro is president and CEO of Mahwah, N.J.-based Exceptional Risk Advisors LLC.

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