Key Person Protection Flashcards

1
Q

State the possible direct consequences for the business and their profits of the Research and Development Director contracting a long-term illness. (8 Marks)

A
  • Finding a suitable replacement is expensive and time consuming.
  • Ongoing and future developments may be delayed or shelved completely.
  • Important business relationships, and consequent goodwill, may be lost.
  • Staff morale may suffer and there may be an additional workload.
  • Sales and profits may fall, potentially giving rise to cashflow difficulties.
  • It may be more difficult to meet existing credit commitments.
  • New credit may not be so readily available.
  • The company may be obliged to continue to the pay the Research and Development Director’s salary.
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2
Q

Simple method of calculating Sum Assured -

A

Multiple of salary
• Key person’s salary is multiplied by an agreed factor, (1) usually between five and ten times. (1)

Benefits:
• Simple to calculate the level of cover, as it is a multiple of salary.

Drawbacks:
• Salary is only one part of total remuneration.
• Salary alone does not reflect the true value of the individual to the business.
• Salary does not allow for the time factor in relation to term to retirement.

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3
Q

Scientific method of calculating Sum Assured -

A

Proportion of profits
• Key person’s salary multiplied by last year’s profits (1) and time in years to replace, (1) then divided by the total salary bill. (1)

Benefits:
• A more scientific approach to the level of cover and more accurate reflection of key person value to the business.
• Gross or Net Profit may be used.
• Net Profit is a good reflection of the business performance although gross profit is a better reflection of loss of the key person’s contribution to the business.

Drawbacks:
• Can be difficult to determine a time factor e.g. for recruitment, training and settling in.
• Does not work where the company is showing a loss or deliberate low profit.
• Still uses a salary figure so has same problems as multiple of salary.

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4
Q

Identify three sources of evidence that may be required to be seen by the key person assurance provider as a means of justifying the level of cover applied for.

A
  • Latest accounts.
  • Business plan.
  • A supplementary business questionnaire may need to be completed.
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5
Q

Outline the conditions laid down by the Anderson Rules that must apply for the premiums paid by an employer to be an allowable deduction from business profits for tax purposes.

A
  • Sole relationship of employer and employee.
  • Short-term/maximum of five years/annual contract.
  • Cover is to replace lost profit through loss of services of insured life.
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6
Q

How does the Anderson Rules normally affect the tax treatment of premiums and benefits for (i) 2-yr Term Ass on life of controlling Director (ii) 2-yr Term Ass on life of senior employee (iii) on same as i but for loan protection

A

(i) The premium is not deductible, and the benefit will not be taxed. (because a >5% shareholder)
(ii) The premium should be deductible, but the benefit will be taxed as a trading receipt. (a non shareholder)
(iii) The premium is not deductible, and the benefit will not be taxed. (because for a loan and not a ‘sole relationship of employer and employee)

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