Note on Keyman Insurance Policy

RVKS and Associates
Chartered Accountants

1. Who is a Keyman?
   1. • Employee of high financial or strategic importance.
      • With unique technical skills or expertise.
      • Employee/ Executive who is core to the operation of the business.
      • Who contributes significantly to the profits of that organization.

1. Keyman may be
   1. • Director of a company
   2. • Key sales people
   3. • Key project manager
   4. • People with specific skills

Keyman Insurance :

Keyman insurance is a life insurance cover which is taken by an employer on the life of an employee(Keyman)whose services contributed substantially to the success of the business of the firm. The employer is the policyholder as well as the one responsible for paying the premium. The employee is the life insured. If the employee dies during the term of the policy, the employer receives a death benefit which compensates the employer for the financial loss suffered due to the death of the key employee.

Definition as per act:

As per Section 10D of Income tax act, “Keyman insurance policy” means a life insurance policy taken by a person on the life of another person who is or was the employee of the first-mentioned person or is or was connected in any manner whatsoever with the business of the first-mentioned person and includes such policy which has been assigned to a person, at any time during the term of the policy, with or without any consideration.

Objective:

The object of Keyman insurance is to indemnify a business firm from the loss of earnings resulting from the death of a valuable employee. Loss of earning may occur because immediate replacement of the Keyman may not be possible and it may take a longer time to train another person to perform his functions.

1. Keyman Insurance cannot be given in the following cases:
   1. 1. Keyman has shareholding of more than 51% in the firm.
   2. 2. His Family has a shareholding of more than 70% in the firm, “Family” of Keyman includes Keyperson, spouse, minor children.
   3. 3. The Company is incurring losses consistently.

1. Benefits to the company:
2. A Keyman insurance policy is considered to be very beneficial for the business because of the following reasons:
   1. 1. In case of death of the employee, the company receives the sum assured to cope with the loss and also ensures business continuity without any financial loss.
   2. 2. The policy gives a boost to the morale of key employees as their importance is outlined through the Keyman insurance cover on their lives
   3. 3. The premium paid for a Keyman insurance policy is considered a business expense. Businesses can claim tax benefits on such expenses under section 37(1)of the Income tax Act, subject to satisfaction of the assessing officer.
   4. 4. If the business has availed loans on the key employee’s guarantee, the death of the employee would result in substantial liability in the hands of the business.The policy proceeds of a Keyman insurance policy can help the business meet such liabilities and avoid a financial crisis.
   5. 5. Keyman Insurance policy is a positive measure to improve the retention of the keyman in the company.

1. Sum assured under Keyman insurance policy
3. The coverage amount for Keyman insurance policy is determined to be the lowest of the following –
   1. 1. 10 times the annual package of the employee
   2. 2. 3 times the average gross profit that the company has earned in the last three years
   3. 3. 5 times the average net profit that the company has earned in the last three years

1. Tax implications of Keyman insurance policy
3. There are different types of tax implications of a Keyman insurance policy on the premiums paid as well as on the benefits received. Let’s understand these implications for the employer as well as for the employee in details:
5. 1. Tax implications for the employer:
   1. 1.On the premiums paid
      1. The premium paid for buying a Keyman insurance policy is considered to be a business expense. This expense is allowed to be deducted from the taxable profits of the company under Section 37 (1) of the Income Tax Act. This deduction, therefore, lowers the taxable profits of the company and reduces its tax liability.
   2. 2. On the death benefit received
      1. The death benefit received by the company in case of death of the insured employee is fully taxable. The benefit is considered to be an income in the hands of the company and it is taxed as per the company’s tax slab rates. The exemption benefit under Section 10 (10D) is not available under Keyman insurance.
6. 2. Tax implications for the employee:
   1. 1. On the premiums paid
      1. The premium paid by the employer is not considered to be a taxable perquisite in the hands of the employee as per Section 17 (2) of the Act. Thus, the employee incurs no tax liability on the premiums paid.
   2. 2. On the death benefit received
      1. Since the death benefit is not received by the employee or his dependents, there is no tax liability. However, if the Keyman insurance policy is assigned to the employee when he quits the employer, the employee becomes the owner of the policy.Therefore,the surrender value of the policy at the time of assignment may be treated as perquisite in the hands of the employee under section 17of the income tax act.

The employee nominates an individual to receive the policy benefits in case of his/her death. In this case, the death benefit is paid to the employee’s nominee. This death benefit would be taxable. No tax benefit would be allowed under Section 10 (10D)

Risk Coverage:

The death of the employee can incur two types of losses to the company:

(a) Loss arising from profit reduction for the company

(b) Costs for the company in replacing the keyman

In case the company has keyman insurance, on the death of the employee, the sum assured is paid to the company. This sum assured is generally quite large and sufficient to not only tide over any business downturn, but also hire a new senior executive.

How to buy Keyman insurance?

1. Businesses which want to buy a Keyman insurance policy would have to approach an insurance company and propose for insurance. The company would assess the insurance requirement of the business and offer coverage under Keyman insurance.
3. Businesses would have to submit the following documents to avail the policy –
   1. 1. Copies of the Memorandum of Association and the Articles of Association of the company
   2. 2. Copies of the audited financial records of the company of the last three financial years. The records include the Profit and Loss Account and the Balance Sheet
   3. 3. A certified true copy of the board resolution which has been passed in a meeting of the Board of Directors of the company. The resolution should contain the following details:
      1. a. The required sum assured
      2. b. Name and signature of the employer who is authorised to act as a proposer for insurance and fill up the proposal form
      3. c. The seal of the company
   4. 4. Copies of the income tax returns of the business of the last three financial years
   5. 5. A consent by the company to place an endorsement on the insurance policy
   6. 6. A keyman questionnaire should be filled and attached to the proposal form. The questionnaire should be signed by the proposer.

A Keyman insurance policy protects the financial interests of the business if its key employee dies prematurely.Though the policy cannot replace the loss of skill, it can provide the business with the funds to deal with the loss and replace the employee with another. A Keyman insurance policy is, therefore, important and should not be ignored.

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