Key Person Insurance indemnifies your company if your key employee suffers a permanent disability or dies prematurely. Your company purchase a life or disability insurance policy on its key employee(s), pays the premiums and is the beneficiary of the policy. If that person unexpectedly dies or becomes disabled, the company receives the insurance benefits. The reason this coverage is important is that the death or disability of a key person in a small company can cause the immediate demise that company. The purpose of key person insurance is to help the company to remain a going concern.
The company can use the insurance proceeds for expenses until it can find a replacement person, or, if necessary, pay off debts, distribute money to investors, pay severance to employees and close the business down in an orderly manner. In a tragic situation, key person insurance gives the company some options other than immediate bankruptcy.