In today’s article, we want to spend a few minutes discussing an often overlooked plan for your business clients … a Disability Buy-Out Policy. We will not apologize for the plethora of information, its dry nature, and the newsletter’s length; we know of no other way to discuss an involved product such as this!
Similar in nature to life insurance sold for buy-sell agreements, this plan exists to cover a need. Instead of death, the trigger is a disability. These plans have long elimination periods, 365 days, 540 days, or 730 days depending on the carrier. Unlike triggering a life insurance benefit, clients may be able to return to work so you don’t want the benefit started too soon. Besides, what partner or shareholder would not want to return to their business?
We won’t get into valuation methodologies (which are important to help determine the partner/shareholder value) as they are too intricate. However, the amount of coverage allowed for each partner/shareholder is predicated on his or her ownership percentage.
Who and how many to cover?
As a rule, you do not have insurers willing to cover more than 4 or 5 partners as it would prove too costly. In addition, the principals can more easily fill in if another partner/shareholder becomes disabled. According to Principal Financial, “A buy-sell agreement is not required in order to purchase DBO insurance, but one must be in place at the time of a disability claim. In the state of New York, the buy-sell agreement must be in place before purchasing DBO insurance”.
How is it purchased?
There are two methods of paying for the coverage: entity purchase and cross purchase. Once again, just like life insurance, you select the one that best fits the needs of the client. Too many policies are cumbersome (and expensive), so often with 3 or more partners/shareholders, the entity purchase will make the most sense.
How does the policy pay out?
The payout on these policies will rely on the total amount at risk. With multi-million dollar agreements, the benefit is normally paid as a partial lump-sum followed by monthly installments. They can also pay out in monthly installments only with no lump sum. Lastly, smaller amounts ($1 Million and less) can be paid in a lump-sum, which is the cleanest and easiest. No matter, a buy-sell agreement will be required at time of claim to determine the valuation method used, the benefit amount (percent of business), and the validity of the claim.
How can we help?
If you need assistance in forming a plan for your business clients, we are here to help. We have built a successful track record in developing buy-sell agreements, that when combined with new individual disability policies, have generated substantial premium discounts for the client.
Please reach out to us so we can make your process easier!