This year National Small Business week was April 30th to May 6th. The week celebrates over 28 million small businesses across the United States1 highlighting the hardworking local business owner. These individuals are passionate about their business and often pour their heart, sweat, and tears into it. Typically the business is the largest source of wealth and income for family business owners. It takes years to build a business; however, it can take only a moment to put that in jeopardy. We passionately feel everyone should have a strategy around managing risk and protection.
Protect Your Earning Power
In a recent study conducted of business owners2, it was discovered that many business owners are not adequately protecting their largest asset—the business—and earning power. On average, at least 60% of annual household income is generated from the business. In our experience, this percentage is much higher. Managing risk becomes even more critical for an owner who has their personal and business lives woven together.
Risk can come in all different forms and there are different ways to address each one of them. A very common risk that is often overlooked is the loss of earning power. As the primary driver of a business, what would happen if you suddenly became disabled and could not run your business for an extended period of time? Would you be able to pay your mortgage, building lease or employees’ salaries?
According to the U.S. Census Bureau, one in five Americans will become disabled for a year or more before the age of 65. We insure our homes and cars, why not also protect our income which provides for our families?
How Much Coverage Do I Need?
Everyone’s financial situation is unique which determines how much coverage is needed, or if coverage is needed at all. Factors to take into consideration are: is there enough liquid savings to self-insure; are there other sources of passive income such as rental income; does the other spouse work; or are you are close to retirement.
Basic bills such as mortgage payments, food, transportation and utilities need to be covered. During a disability period additional expenses such as physical therapy and medical bills may also need to be covered.
Not only should a business owner consider disability coverage on themselves but also key employees. Your company success may depend on the contributions of key employees and a loss of such talent may temporarily set the business back. Key employee disability (and life insurance) can be paid directly to the business to train and hire replacements.
There are distinctions when it comes to disability coverage:
- Type of coverage: You can purchase “any occupation coverage” which is generally cheaper. However, as long as you can reasonably perform any gainful occupation that will pay 60% of your prior earnings, the disability coverage will not begin. The other alternative is to purchase “own occupation” coverage which is generally more expensive. The disability coverage will begin if there is a medical condition that prevents you from performing duties of your own occupation. Most professional and business owners prefer the latter.
- Tax implications: Whether the coverage is purchased individually, paid for by the business or a combination will determine how the disability income is taxed. If the premiums are paid with after-tax dollars the benefits received are tax-free. However if the premiums are considered paid by the business/employer, not included in taxable income, then the benefits received are fully taxable. Depending on your tax bracket this could be a significant reduction.
Disability is one example of the many risks that business owners face. Our approach is to review all the moving parts in our client’s complex financial lives. The path to achieving financial security takes thoughtful planning and implementation.
1SBA Small Business Profiles for the States and Territories
2U.S. Trust Insights on Wealth and Worth 2015: Five Attributes of Today’s Business Owners