According to research carried out by Legal & General, 52% of UK businesses would fold within just one year if they were to lose one of their key staff members – the average UK business is borrowing £176,000.
If a business owner or director dies unexpectedly, liability for their outstanding loans and debts may pass to the surviving business owners or the company itself. Many lenders demand immediate repayment if the loan recipient dies, which may put the firm at financial risk. Business Loan Protection (BLP) protects the company financially by providing a cash lump sum to cover the business debts of the deceased.
BLP Explained
Business loan protection is a flexible solution which suppliers can tailor to the specific requirements of each business. Typically, businesses take out cover on the life of the persons responsible for the repayment of the loan on a ‘life of another’ basis. The company can take out separate policies for each person responsible for the loan, with each policy reflecting their differing degrees of liability. For example, each person can have a separate plan with a different sum insured.
Under these circumstances, the business is the policyholder and is, therefore, the recipient of the payout. The firm can then decide to pay the loan off immediately in full using the funds or continue to repay the loan using interim instalments in line with the original borrowing agreement. Business loan protection works slightly different for business partnerships, where two partners or more share ownership of a company. In this case, all partners typically take out own life cover to cover the amount of debt they have in their name and place it under a business trust for the other business partners.
Sole traders can also secure business loan protection insurance. A sole trader would usually take out loan protection on their own life and place the policy into trust for their family. Should they pass away, the family can use the funds to pay off any outstanding commercial debt they might have.
Extent of Coverage
Lenders typically require somebody to be named on any lending agreement, who is liable for the debt. This person is known as the guarantor. If they die, liability for repaying the funds passes to the remaining business owners or the business itself. Business loan protection insurance can cover any debts guaranteed by the insured person, in the event that they pass away unexpectedly. Typically, there’s no limit to the amount of debt which you can insure on the policy. Companies can use this kind of insurance as a safety net for a range of commercial debt, such as:
- business loans
- overdrafts
- commercial mortgages
- venture capital funding
- personal guarantees
- directors’ loans.
Commonly Covered Incidents
While it’s primarily a life assurance-based insurance policy, many policies can pay out if the insured person becomes terminally ill with a life expectancy of fewer than 12 months. Some plans can also cover those who fall seriously unwell and are unable to work, provided you have opted for a critical illness policy. Typical illnesses for which you can claim critical illness cover include:
- heart attacks
- stroke
- organ failure
- brain injury
- coma
- deafness
- HIV infection
- bacterial meningitis
- dementia
- cancer (some policies may specify the type)
- paralysis
- permanent disability.
Businesses that Require Loan Protection Insurance
Business loan protection insurance is by no means a legal requirement. However, many lenders require an assignment of a policy as a form of security for the loan. Some insurers can assign policies to the lender so that they receive the funds directly following the death of the guarantor.
That said, any company with outstanding debts should consider a business loan protection policy, particularly if the company would struggle to repay these amounts if the owner were to die. This type of insurance is crucial for businesses that wouldn’t have enough assets to cover the debt, as they could be at risk of bankruptcy.
Not only could the death of a business owner put the company at risk without business loan protection insurance, but it could also put their family at risk if the outstanding loans have personal guarantees attached. Should the business be unable to repay the loans and subsequently fold, the lender may seek repayment from the estate of the guarantor, putting their family’s private assets at risk.
Many insurance advisers consider smaller companies at higher risk of inability to repay loans, as they are less likely to be able to absorb the financial blow of repaying significant amounts of commercial debt. Smaller loans, and particularly start-ups, rely on business loans to begin trading, meaning they have both more debt and fewer assets to repay them, leaving them especially vulnerable to financial difficulties if the guarantor was no longer around.
Assessing Your Policy and Coverage Needs
If you’re taking out business loan protection insurance, the sum insured on the policy must reflect the amount of the outstanding business debt. There are two principal ways that you can structure a business loan policy:
- Decreasing Cover (Reducing Benefit) – This type of cover falls in line with your capital repayment loan. When you make repayments to your debt, the amount of cover will reduce to reflect the sum remaining, and will reach zero by the time the loan has been repaid in full.
- Level Cover – This amount remains fixed over time and covers the entire loan until the end of the loan term. It is typically used to cover interest-only loans where the capital funds are not repaid until the end of the term period.
Alternatively, companies can opt for a policy taken out on a guaranteed insurability basis, where the cover adjusts in line with the loan, to ensure that if the debt grows, the protection extends to match. With guaranteed insurability, typically the company needn’t inform the insurer of a loan increase or seek approval before accepting larger loans. The most important thing to remember is that the period of cover needs to match the term of the loan, to ensure the company has protection throughout the full duration of the loan agreement.
Before choosing a policy, you must check the terms of the loans you wish to cover to understand who has responsibility for the funds. Business owners may be jointly liable, severally liable or jointly and severally liable for the repayment of a loan. The liability of the individuals affects the type of policy suitable. Insurance consultants and brokers can advise on an appropriate policy structure for your loan type, depending on the distribution of liability.
Cost-Basis of Policy Coverage
How much you will have to pay for business loan protection depends principally on the size of the outstanding debt, and thus the amount of cover you need. Decreasing cover tends to be cheaper, as the sum insured reduces over time, and this decrease is mirrored in the price of the premiums. The most expensive type of business loan protection policies are those taken out on the basis of guaranteed insurability, as the insurer promises to protect an amount which may grow without their express approval.
As business loan protection insurance is a life-based policy, the price of the insurance is largely determined by information relating to the persons insured. The insurer will work out the rate of your premiums using the following information about those named on the policy:
- the state of their general health
- any current medical conditions
- their medical history
- age
- lifestyle
- smoker status.
Typically, the younger and healthier the person to be insured on the policy, the cheaper the premiums: a healthy 45-year-old would expect to pay almost double the monthly premiums of a healthy 35-year-old.
Final thoughts and FAQs
Even large businesses can be at risk of financial ruin should they lose an intrinsic member of their team to death or critical illness. Having a plan in place to protect the smooth-running of the company should the worst happen is essential for any business to survive.
Business loan protection insurance can be essential in these cases, enabling companies to repay the debts of the deceased and continue trading as normal. Without it, businesses can face severe financial turbulence, and even insolvency. Consider taking out a business loan protection policy to secure the future of your business through difficult times. Still have questions on business loan protection? Check out answers to common queries, below.
What is the tax treatment of business loan insurance?
Typically, insurance premiums for business loan protection are not tax-deductible as business expenses for corporation tax purposes. This is because HMRC tends to consider the premiums part of the cost of raising capital, as well as not being wholly and exclusively for the benefit of the business. That said, while you usually have to pay tax on business loan protection premiums, the payout itself is often tax-free, as it is typically treated as a capital receipt, a benefit to the lender rather than the business.
What the Difference to Key Person Insurance?
Both key person insurance and business loan protection insurance can safeguard businesses financially against liabilities they incur following the death or critical illnesses of an essential member of staff. However, key person insurance can cover any financial losses that this might cause for the company, including the cost of hiring and training replacements and any loss of revenue that comes from losing the person’s expertise or contacts. Business loan protection insurance covers only the outstanding borrowings for which the person is responsible, such as a loan, overdraft or commercial mortgage.
The treatment of tax also differs between the policies. The taxation of business loan protection tends to be relatively straightforward. With key person cover, taxation depends on the discretion of the tax authorities, who will take into account the purpose of the cover and the type of insurance.
What other types of business protection insurance should I consider?
Companies commonly take out business loan protection as part of a packaged business protection insurance policy, together with shareholder or partner protection and key person cover.
- Shareholder or partner protection can ensure that the business has a succession plan in place for each shareholder or partner’s business equity, should one of them die suddenly or fall ill unexpectedly. This allows for greater business continuity and stops shares from being tied up in probate, which may prevent the surviving owners from moving the company forward.
- Key person cover can account for financial losses following an essential employee’s death or inability to work due to illness, including costs for lost revenue and hiring replacement staff.
