KEYMAN INSURANCE

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KEYMAN INSURANCE
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Partnership Insurance
Employer-Employee Insurance
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Key-man insurance is an insurance
taken by a business firm on the life of an
employee (key-man) whose services contribute
substantially to the success of the business of
the firm. The object of key-man insurance is to
indemnify business firm from the loss of
earnings resulting from the death of a valuable
employee. Loss of earnings may occur because
immediate replacement of the key-man may not be
possible and it may take longer time to train
another person to perform his functions. Further,
loss may occur if the key-man can be replaced
only at considerable cost of training etc. to the
business of firm. The amount of key-man insurance
can be estimated to be the monetary value of the
likely setback to the profits of the concern due
to the death of the key-man.
Section 37(1) of the Insurance-tax Act,1961
provides that any expenditure laid out or
expended wholly and exclusively for the purposes
of the business or profession , shall be allowed
as a deduction in the computation of income from
the business or profession.
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Premiums paid on insurance policy
taken by the employer on the life of his
employees or expert advisers against death or
injury or liability for compensation in respect
of accidents to its employees are allowable as
business expense in terms of the said Section
37(1). The Corporation made a
reference to the Central Board Of Direct Taxes
about key-man insurance. The Board has informed
the Corporation that if the concern is able to
establish before the Income-tax officer that the
premium paid on such insurance is an expenditure
laid out wholly and exclusively for the purpose
of business, it will be entitled to a deduction
under Section 37(1) of Income-tax Act ,1961.
They have further mentioned that the employees
should not derive any benefit from the insurance.
If these conditions are satisfied the amount of
premiums paid by the concern will not be treated
as perquisite in the hands of the employee. It
may be noted that if the premiums in respect of
insurance on the life of key-man is allowed as
business expenses, the proceeds of the policy in
the hands of the concern will be treated as
revenue receipt.
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Please refer to the letter dt. 16-12-63 of
L.I.C to Secretary,Central Board of Revenue and
letter dt.3-2-64 of Under Secretary,Central
Board of Direct Taxes to L.I.C. Information
about key-man the company is generally called
for (please see KEYMAN QUESTIONNAIRE) to
determine whether the proposal is a bona fide
proposal put forward for the purpose of
indemnifying the employer against any loss
arising on the death of a key-man ( employee)
Key-man Insurance can be taken by business
firms on the life of its employee /s and no
benefit of any sort accrue to the concerned
employee/s. While the primary object of this
insurance is to protect the Company against
premature death of a valuable employee, the
Company secures also some tax advantages.
The object of key-man insurance is to indemnify
the company for the loss of earnings resulting
from the death of a valuable replacement of any
trained person to perform his functions. In
addition, loss may be more if the key-man can be
replaced only at considerable cost of training.
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It would not be appropriate to
issue a key-man insurance where the profit has
been in the decline and turnover of the company
is also on decline, unless there are very special
circumstances. The Divisional Offices must very
carefully consider the need and justification for
key-man insurance under such circumstances.
( C.O Circular No. 1563/4
dt.2-9-95) A key-man Insurance
Policy, of the Life Insurance Corporation of
India, etc. provides for an insurance policy
taken by a business organisation or a
professional organisation on the life of an
employee, in order to protect the business
against the financial loss,which may occur from
the employees premature death. The key-man is an
employee or a director, whose services are
perceived to have a significant effect on the
profitability of the business. The premium is
paid by the employer.
(Circular No.762/4 dt. 18-2-1998 issued by
C.B.D.T)
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MAXIMUM ALLOWABLE SUM ASSURED A) Maximum
allowable S.A in case of key-man insurance
depends upon nature,size and business of
the company. The normal guidelines for
maximum S.A for a large quoted Public Limited
Company are as follows Maximum
allowable S.A will be lower of the following
i) 5 times average net profit (after making
provisions for depreciation and income
tax ). ii) Two to three times the gross
profit ( Net Profit Depreciation
Income Tax) (C.O Circular No. Actl/1683/4
dt.7-7-99)
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B) Maximum Sum Assured for Private Limited
Companies or closely held Public Limited
Companies -
NO. OF SHAREHOLDERS lt 10 BUT gt 5 TWO
TIMES
OR OF
AVERAGE NO. OF EMPLOYEES lt 10 BUT gt
5 OF 3 YEARS

NET PROFIT OTHER CASES
THREE YEARS

TOTAL NET

PROFIT.

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Recently established company where audited Profit
Loss Accounts for the last three years are not
available- NO. OF YEARS FOR WHICH
MAXI. SUM AUDITED ACCOUNTS ARE
ASSURED AVAILABLE.
2 YEARS
2 TIMES AVG. N.P.

1 YEAR
EQUAL TO
N.P. LESS THAN 1 YEAR
NIL
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KMI COVER IS PERMISSIBLE IF A) KEY
PERSON SHAREHOLDING lt 51

AND B) FAMILY SHAREHOLDING
lt 70 FAMILY INCLUDES KEY
PERSON ,SPOUSE AND MINOR CHILDREN.
( C.O CIRCULAR REF ACTL/1729/4 DT.24-7-2000)
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In case of death, the sums paid under the
policies would be treated as an income of the
business. The insured amount may be paid under
the policy either in a lump sum or in the form
of an agreed number of fixed or variable annual
instalments ,depending upon the nature of the
impact of the key-mans withdrawal on the
companys business. In case the key-man
leaves the service, the concern would surrender
the assurance and show the surrender value of
assurance as income received during the year. In
this case the surrender value, being much less
than the sum assured, may not fully compensate
the business for the loss of the key-man. It
would be only a partial reimbursement of the
loss. The insurance would be proposed by
the company for its own benefit and there is no
element of perquisite involved in so far as the
employee is concerned.We shall, therefore be glad
to have your advice if the position explained
above in para 5 in respect of key-man insurance
is correct.
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F.NO.35/12/64-IT CENTRAL BOARD OF DIRECT
TAXES New Delhi,the 3rd February,1964 To, The
Life Insurance Corporation Of India, Jeevan
Kendra, Jamshedji Tata Road, Mumbai-1 Sirs,
Subject Key-man Insurance
-Liability to tax

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I am directed to refer to your letter
dated 16th December,1963 on the above subject and
to say that if the assessee firm taking out the
insurance policy is able to establish before the
Income-tax Officer that the premium paid on such
insurance is an expenditure laid out wholly and
exclusively for the purpose of business , it will
be entitled to the deduction under section 37(1)
of the Income-tax Act 1961. The matter will,
however depend upon the facts of each case. 2.
According to what you have stated, the proposed
insurance will be effected only for the benefit
of business and there will not be any benefit to
the employees. In view of this, the premium paid
by the company will not be treated as perquisite
in the hands of the employee.

SD/-J.RAMA IYER

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POLICY PREPARATION AND POLICY LOAN The
following endorsement will be placed on the
policy- bond It is hereby agreed and
declared that in the event of the employee life
assured leaving employment of the employer the
within mentioned policy shall be (I) Either
surrendered to the Corporation for its cash
value
OR (II) Assigned absolutely in favour of the
employees life assured.
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It is further agreed and declared that
the within policy shall not be allowed to be
assigned to anyone except the life assured
himself absolutely or to the Corporation as a
security towards the loan on the within policy.
It may be noted that prior consent from
the employer to place the endorsement on the
policy has to be obtained for entertaining the
proposal and/or issuance of the policy under
Key-man Insurance While issuing the
policy, the following points may also be
noted 1) The words Key-man Insurance should be
typed prominently on the face of the policy and
copy policy.
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(2) The name of the Life Assured and the Proposer
should appear in the schedule. 3) The words
Nominee under Section 39 of Insurance Act
appearing in schedule should be deleted. POLICY
LOAN Policy loan is available under Table
112/151 after 1 year from D.O.C provided premium
for at least 1/10 of the premium paying term has
been paid. Under Table 11,14,47 and 48, loan is
available as under Endowment plans. Note
According letter Ref Actl/JS dt.2-5-97 of
Executive Director (Actuarial) Central Office to
Sr. Divnl. Manager D.O-I, Mumbai, a policy under
key-man insurance can be assigned to a bank or a
financial institution for the purpose of raising
loan.