Key Person Insurance on the Balance Sheet: What Shows Up

A key person insurance balance sheet entry usually comes down to one figure: the policy’s cash value, minus any loans against it. The death benefit is not an asset while the insured person is alive. Term coverage generally has no cash value, so it usually shows no policy asset at all. Here is how each piece works, in plain words.

NR CPAs & Business Advisors is a Miami CPA firm. Insurance is offered by Nischay Rawal, a licensed insurance agent, separately from the firm’s accounting practice.

What Is Key Person Insurance and Why Does Its Accounting Matter?

Key person insurance is life insurance a business buys on an owner or employee whose loss would hurt the company. The business usually pays the premiums and is both the policy owner and the beneficiary. The Insurance Information Institute describes this coverage as protection for a business’s financial losses after a key employee dies or becomes disabled.

Because the company owns the policy, the policy lands in the company’s books. Many owners assume the death benefit is the number that matters on paper. It isn’t. The balance sheet tracks what the company owns and owes today, and the death benefit is a payment that depends on a future death. For an overview of the coverage, read our key person insurance overview.

Does Insurance Go on a Balance Sheet?

A key person insurance balance sheet entry depends on the policy type. A permanent policy with cash value can show an asset. The death benefit does not show as an asset while the insured is alive.

Whole life insurance is the usual permanent policy with a cash value. Term life insurance generally has none, so the balance sheet usually shows no policy asset for it. The exact entries follow the company’s accounting framework, and its accountant makes that call. Don’t copy another company’s entries and assume they fit yours.

What Is Cash Surrender Value and Where Do You Find It?

Cash surrender value is the amount the insurer would pay if the policy were surrendered, which is the policy’s cash value minus any surrender charges and any outstanding policy loans. The insurer’s annual statement is the source document for that figure. Use the number the insurer reports, not an estimate you build yourself.

Read the statement line by line. Guaranteed values and non-guaranteed values usually appear as separate items, so keep them apart. Dividends are not guaranteed. Treat any projected growth as an illustration, not a promise. The Florida Department of Financial Services life insurance guide explains cash value and policy loans for consumers.

How Does Term Coverage Differ on the Books?

Term coverage builds no cash value, so its premiums are usually an expense over the coverage period. A premium paid ahead of a coverage period that hasn’t started yet is often carried as a prepaid item. It moves to expense as that period passes.

Owners often ask whether term or whole life changes the balance sheet. The answer turns on the policy’s terms, so compare the actual contract. The NAIC Life Insurance Buyer’s Guide compares term and permanent coverage and lists questions to ask before buying. Florida’s policy loan section also does not apply to term policies or term riders, under Fla. Stat. § 627.458.

How Do Policy Loans Change the Net Figure?

A policy loan lowers the net cash value, because the unpaid loan is subtracted from the cash value. This section gives a general overview of the basics. A policy loan is generally limited to the policy’s loan value, and the insurer may deduct existing debt from that loan value or from the loan proceeds. Fla. Stat. § 627.458 reads: “The loan value of the policy shall be at least equal to the cash surrender value at the end of the then-current policy year, except that the insurer may deduct, either from such loan value or from the proceeds of the loan, any existing indebtedness not already deducted in determining such cash surrender value, including any interest then accrued but not due, any unpaid balance of the premium for the current policy year, and interest on the loan to the end of the current policy year.” The policy may also provide that interest not paid when due is added to the debt and bears interest at the same rate.

Watch the debt level closely. If total debt equals or exceeds the loan value, the policy may also provide for termination, and any such termination may take effect only after at least 30 days’ notice is mailed. Federal tax law also limits interest deductions on certain business-owned policy debt. Talk with your accountant and insurance agent before you borrow against a policy.

How Is the Death Benefit Recorded When a Claim Is Paid?

The death benefit is generally not an asset until the insured dies and the claim is paid. Federal law generally excludes life insurance proceeds paid by reason of death from gross income, with exceptions. 26 U.S.C. § 101 sets out that rule and its exceptions. Once the money arrives, the company records the cash, and its tax advisers confirm the tax result.

Florida adds an interest rule for lump-sum proceeds. Under Fla. Stat. § 627.4615, the payment must include interest at an annual rate at least equal to the Moody’s Corporate Bond Yield Average-Monthly Average Corporate figure on the day the claim was received. Interest runs from the date the insurer receives written due proof of death.

Keep the policy file, beneficiary designation and proof-of-death documents together. The policy’s terms, exclusions and limits still govern the claim.

What Do Lenders and Reviewers Ask For?

Lenders and reviewers usually ask for the annual statement, the cash value, any loan balance, and the owner and beneficiary designations. Employer-owned policies add a federal reporting step. A policyholder that owns one or more employer-owned life insurance contracts issued after August 17, 2006 must file a return for each year the contracts are owned, showing the number of its employees, the number of employees insured, the total amount of insurance in force, and whether a valid consent was obtained for each insured employee.

A buy-sell agreement funded by life insurance ties the policy’s value to ownership interests. For help starting that partner conversation, see how to tell business partners about key person insurance.

Fees for accounting and insurance work are set out in writing before any engagement begins. If a certified public accountant or firm engaged in the practice of public accounting earns a commission on an insurance sale to a client, Fla. Stat. § 473.3205 requires written disclosure to the client.

If your company owns a policy on an owner or key employee, or is weighing one, you can request a coverage review with our team through our contact page.