Business owners put their time, money and energy into their growing businesses. They know who they are — and how they define themselves. But their definition in terms of group life and disability income protection is a different matter, and can have a big impact when it comes to avoiding insurance gaps.
Sure, group life coverage and income protection seem simple enough. After all, the options are similar from one insurance carrier to another, right? You'd be surprised.
Typically, group life and disability coverage doesn't insure a small business owner's total income. That's because most small businesses are structured as "flow-through entities," meaning that in addition to any salary received, the owner's share of business profits flows through to their personal tax return.
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That's significant, because most group life and disability contracts rarely capture the business profit portion of an owner's income, resulting in a sizeable insurance gap.
Let's look at an example. The following is an earnings profile for a business owner.
|
| 2012 | 2013 |
| Owner's Share of Business Profits | 55,000 | $69,000 |
| Owner's Salary (W-2) | + $71,000 | + $65,000 |
| Total Income | = $126,000 | = $134,000 |
Now, let's compare two popular industry standards for determining benefits: 1) Base Wage definition; and 2) W-2 Two-Year Average definition.
|
| Base Wage (2013) | W-2 Two-Year Average |
| Insured Income | $65,000 | $68,500 |
| Actual Owner's Income | $134,000 | $130,000 |
| Insurance Gap | $69,000 | $61,500 |
The gap is substantial. In terms of disability insurance, the owner would receive only about half of their total compensation. And, if the life insurance is set up as a function of income, the owner's beneficiaries would receive only about half, as well. Is this the amount the owner expects?
Tip: When evaluating options in the group life and disability market, look for a carrier that covers both salary and profits on business owners/partners.
Be sure contracts include a definition of compensation dedicated exclusively to business owners. It may be a bit more expensive. But, the alternative of paying less now means the owner might sacrifice more down the line. And for business owners, making certain insurance gaps are filled now helps them protect their business investment — the dream they've worked years or decades to build — in the future.
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