Key Man Insurance Tax Rules

The taxation of key man, or key person insurance as it is now often referred to, is by no means straightforward. Unfortunately, not all companies are treated equal when it comes to the way HMRC will tax the premiums or any payouts on a claim made.

This guide seeks to explain how you might expect to be taxed on your key man insurance policies and how you can make sure you don’t get caught out.

How does HMRC treat key man insurance?

The tax treatment of key person insurance will depend on the core reasons for taking out the policy and on who it is there to protect.

If an employer insures their business against loss of profits due to the death, critical illness, accident or injury of an employee, director or other key person the premiums may be tax-deductible if:

• The sole purpose of the insurance policy is to meet a loss of trading income from the loss of that key person, and not a capital loss to the business
• If the insurance is a term insurance policy providing cover against the risk of one or more key lives within the term of the policy, and no other benefits. It’s also important that the insurance term should not exceed the key employee’s usefulness to a company

Any premiums paid for whole life or endowment policies, or critical illness and accident policies with investment content, will be deemed as capital expenditure and will not be tax-deductible.

Loan finance protection

If a company has key person insurance for the purpose of protecting loan finance, whether that is a term insurance policy or an endowment policy, premiums on these policies are unlikely to be deductible.

This is because, as far as HMRC are concerned, the premiums on these kinds of policies aren’t regarded as ‘incidental costs’.

It’s possible that you may incur incidental costs while arranging life insurance for a key employee. Any such incidental costs may be tax-deductible, but the premiums on the policy itself will not.

Tax treatment of key person insurance

Provided a company is taking out key person insurance on an employee for the sole purpose of protecting the business against loss of profits which could result from the loss of that key employee due to death or critical illness, the company may be allowed tax relief on the premiums.

The insurance policy must be a short term policy. Although previously the rules have stated that the policy must cover no more than five years, these days 10 and 15-year policies may also be allowable under HMRC rules.

Is key person insurance taxable?

If you have key person insurance to protect a business loan you have taken out, premiums for the insurance policy will be taxable because any claim or payout made isn’t intended to benefit the business, but rather the lender of the loan.

Therefore, life insurance taken out to protect business finance will require you to pay tax on the premiums.

Are premium payments tax-deductible?

If you’re taking out key person insurance to cover the loss of a vital company employee, the insurance premiums are typically treated as a tax-deductible expense and are eligible for corporation tax relief.

Do I have to pay income tax if a policy pays out?

If a policy pays out, the lump sum benefit will be paid to the company tax-free. Once it has been paid, the money will become liable to tax and treated in the same way as any other money within a company.

Speak to an expert

The tax rules regarding key man insurance can get complicated and it’s a wise idea to seek professional advice to find out what would be the case for your particular circumstances.

If you need key man cover to protect your business, understanding the surrounding tax rules can be helpful, but the tax implications shouldn’t give you a reason to forego making sure you have adequate protection in place.

We work with expert advisors who can help find the most suitable and affordable key person insurance and will be able to talk you through all the tax implications at the same time.

Call 0808 189 0463 or make an enquiry online for a free, no-obligation chat.