The Role of Life Insurance for Business Partners

As a business owner, there are opportunities to determine when to recognize income and when to be selective taking on expenses. One of the more frequent questions we get from business owners is “can the business pay for life insurance to reduce our taxes?”. The short answer is both “it’s complicated” and “no.”

In most cases, business owners are really asking if they can have the business purchase life insurance on their own life, the lives of the other partners, or key employees. However, if the business pays for the policy and is the owner and beneficiary it generally cannot deduct the cost of the premiums. If the business pays the cost of the premiums and the employee is the owner and beneficiary the cost of the premiums are included as taxable compensation for the employee.

So while life insurance is typically not a method to reduce taxable income for business owners, it does serve a purpose by allowing partners to fund the provisions of buy-sell agreements if there is a death. If the business is the contract owner and beneficiary and pays for the policy, any death benefit received is tax-free to the company. Imagine that you have a business with a $1,000,000 valuation and ten 10% owners. The business owns life insurance contracts for $100,000 on each partner. The partnership agreement has a buy-sell provision that stipulates that if a partner dies, the business is to purchase their shares back from their estate for the current market value. Coming up with $100,000 in capital within a short time could be problematic for this firm but with the $100,000 death benefit the family of the deceased partner receives the payment in exchange for their shares and the remaining partners each now have an equity interest valued at $110,000.

The decisions get more complicated when you consider a cash value life insurance policy vs. a term policy and when you evaluate the specifics of owners vs. non-owners. However, in general, life insurance is a valuable tool for multi-owner businesses.

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