Life Insurance for Small Business Owners: Why it Matters 

Many Canadians aspire to start their own business and pursue their passion. With half of all Canadians considering starting their own business, it’s common for small business owners to make sacrifices in the pursuit of creating something meaningful.

Building a successful business takes persistence and comes with juggling many responsibilities, including manufacturing, operations, customer service, and payroll. But as a small business owner, you take on financial risks that employees don’t necessarily have to worry about.

This is where life insurance for small business owners and sole proprietors helps protect what you’ve built. Understanding the importance of life insurance and choosing the right kind of life insurance for your needs can help support your loved ones and the succession of your small business.

Key takeaways

• Small business owners face financial risks compared to employees. This includes taking on business debt, fluctuating income, and tax liabilities. 

• Life insurance for small business owners can protect your business income, family, and cover business liabilities in the event you pass away.

• Business continuity requires careful succession planning. With life insurance, your beneficiaries receive a payout that could be used to hire replacement staff or help cover payroll costs.

• There are different types of life insurance options. Some are suitable for freelancers with short term needs, other products offer lifetime coverage through investment and savings vehicles.

• Life insurance can be used to facilitate buy-sell agreements so that a business partners can buy out your portion of shares within the company.

• It’s a good time to consider buying life insurance if you’re taking on debt, hiring employees, or working with business partners.

What are the financial risks for small business owners?

Without adequate safeguards in place, small business owners may put their businesses into jeopardy. The following are some of the most common financial risks for small business owners and freelancers:

• The pressure to succeed in establishing and growing a small business rests on business owners. In Canada, about 70 per cent of small new businesses survive for at least five years. The reality is that while some businesses will thrive, others will fail.

• Entrepreneurs don’t usually have the predictability of a regular paycheque or employee group benefits. 

• It’s common for personal and business finances to be intertwined. Some small business owners may use personal assets to conduct their business, such as using a car or home office. As a result, the company is tied to the owner’s well-being. 

• As a small business owner, there’s the potential for financial instability if you pass away. This would likely affect clients, any employees, or business partners.

• Small businesses are more vulnerable without a clear succession plan. It’s important to determine the exit strategy, such as selling your business or passing it on to a family member, should you pass away.

• If you take on business debt and you die, you could burden your spouse, business partners, or loved ones with any outstanding financial obligations.

• If you pass away, it could trigger potential tax implications, including capital gains tax, probate fees, or taxes on the sale of business assets. 

For these reasons, small business owners should consider life insurance to help mitigate the financial risks they take on and ensure their small business carries on once they pass away. 

Why life insurance matters for small business owners 

Being an entrepreneur requires you to assume various job titles and make strategic decisions. Life insurance can fit into your overall business strategy and help protect the foundation you’ve built. The benefits of life insurance for small business owners include the following:  

Protects the family’s financial future

It’s not uncommon for entrepreneurs to take on debt or carry a business loan to get their business off the ground. However, in the event of your death, you wouldn’t want to pass along any business debts or financial obligations to your family. With life insurance, you have peace of mind that it’ll help repay debt and provide income replacement for your loved ones during this challenging time.

Ensure business continuity

Having the proper insurance coverage can help to offset any operational costs, payroll, and debts. It can also help to fund severance packages, transition plans, or the cover hiring costs of replacing you, especially if you’re critical to the success of the business. A life insurance payout can also be a cushion that prevents business partners or family to sell the business under duress. Without it, it may be challenging to keep the business you helped grow run smoothly. 

Wealth management 

As you build your business, ideally your income grows along with it. One thing for small business owners to consider is how they’ll preserve their wealth for years to come. Depending on the type of insurance policy you choose, it can be a vehicle to diversifying assets and grow wealth tax deferred. These life insurance policies typically include a cash value component or investment options to help you grow your nest egg. 

Tax advantages

Life insurance offers plenty of tax management benefits. For instance, the death payout is tax-free, which is helpful with succession planning. Permanent life insurance, such as whole life or universal life, can act as a tax-efficient savings vehicle and estate planning tool. If you have a corporate-owned life insurance policy, you could deploy strategies to minimize your tax liability. One way is by utilizing retained earnings to grow on a tax-deferred basis within the life insurance policy. 

Facilitate succession planning

When owning a business with others, life insurance plays a key role in funding buy-sell agreements to ensure a smooth ownership transition. Plus, having a policy can prevent disputes among heirs or business partners ensuring that all involved receive fair compensation. The process involves determining a business valuation that’s updated annually. So, if you pass away, the policy will provide sufficient payout to your business partners allowing them to buy your shares at fair market value. Most importantly, life insurance is a means for any remaining business partners to maintain control of the business. 

Types of life insurance for small business owners

There are a variety of life insurance solutions available for business owners. Some life insurance products protects the individual, while others are tailored to provide coverage for the business. Here’s an overview of the different types of life insurance available:

Term life insurance

If you’re looking for insurance for a specific duration, such as from 10 to 40 years, then consider term life insurance. It’s ideal for owner of startups who haven’t yet established stable revenue. As an example, term life insurance may be a good option for an independent café owner looking for shorter-term coverage during the early years as their business grows. It’s also a more affordable option for entrepreneurs and small business owners.

Whole life insurance

Whole life insurance provides lifetime coverage and could be a viable option for some small business owners who wish to prioritize estate planning and find tax-efficient ways to accumulate wealth. In addition to the death benefit, there’s also a cash value component that grows over time, predictable premiums, and coverage is permanent. 

Universal life insurance

Another type of permanent life insurance that provides lifetime coverage with flexibility and investment options is universal life insurance. It’s likely best suited for well-established entrepreneurs with a higher income, incorporated business owners, or savvy investors looking to diversify their investments. The advantages to universal life insurance are that you can adjust your premiums, protect your assets, access living benefits, and help with estate planning strategies. 

Buy sell insurance

If your company has one or more business partners involved, a multi-generational family businesses, or incorporated companies you may benefit from taking out a buy sell agreement. If your business partners or shareholders survive you, buy-sell insurance will provide a payout that the business partners can use to buy out your shares at fair value. 

Having this coverage will allow surviving business owners to continue running the company and avoid feeling forced to sell the business or leaving family members with business debt.

When should small business owners get life insurance?

Even if you’ve been a small business owner for many years, it’s not too late to take out a policy. These are some everyday situations where small business owners should consider life insurance: 

Starting out: When you start a business, you may need to hire staff or take out a loan to buy equipment. Life insurance can provide protection when you launch your new business so that your family or business partners are protected should you die. 

Growing your business: As you scale, your financial obligations may increase. You may sign new contracts, expand your product line, or attract new customers. In this instance, life insurance can help ensure your business is protected now and in the future. 

You’re young and healthy: Life insurance is easier to qualify for and premiums are typically lower when you’re younger and are in good health. If you wait until your business is well-established to take out a policy, your premiums will likely be higher, and it may be harder to qualify for all types of life insurance once you’ve had health issues.

Adding a business partner: Introducing a business partner into your venture is an exciting milestone. Buy sell insurance can fund a buy-sell agreement between business partners to ensure proper succession planning and protect the company’s longevity.

You have dependents: If you have family members, including a spouse, children, or parents who are reliant on your income, then it’s important to have life insurance. It’s common for freelancers or sole proprietors to have an inconsistent income, especially in the first few years. Having life insurance means financial stability for your loved ones in the event you’re no longer there.

Approaching retirement: If you’re close to retirement, you want to think about having an exit strategy. It may mean finding a way to sell your business debt-free once you’re gone or pass it on to the family to continue your business legacy.

How to choose the right life insurance as a business owner

One of the most important steps is selecting the appropriate life insurance coverage for business owners. These are some tips to help you navigate this process: 

Assess your needs: Calculate your personal and business financial obligations. Be sure to factor in the needs of your family and any dependents, as well as business partners or employees. For instance, you’ll want to consider business loans, mortgage obligations, and potential taxes.

Determine the coverage amount: Consider business debts, income replacement, future growth plans, dependents’ needs, and personal debt. You should also determine which policy fits within your budget, given your projected cash flow. You can always start with a simple term life policy and add additional coverage as your personal and business needs evolve.

Work with a licensed advisor: If you need guidance or have questions, speak with a licensed insurance advisor. They can provide tailored advice that suits your unique business and personal circumstances and help you compare policies. 

Buy more than one policy: It may be wise to choose to buy multiple life insurance policies. For example, have one life insurance policy for personal and another for business. One benefit to having separate policies is it helps keep your personal and business affairs and finances separate once you’re gone. 

Review your policy regularly: Be sure to read the fine print. It’s beneficial to review and understand the terms and conditions of your policy. It’s also a good idea to review your existing coverage annually and update coverage as your business needs change.

Protect and grow your small business with life insurance

No doubt, you’ve spent countless hours building a valuable business. As a small business owner, you take on various responsibilities and financial risks. This is where life insurance helps provide a safety net for unexpected events. It allows you to continue to grow your business and ensures that your employees, business partners, customers, and your family are protected. 

Whether you’re just starting out or have an established venture with business partners, you can find a life insurance solution that will suit your journey. Life insurance isn’t only a personal decision, it’s also a business decision that can safeguard your legacy and provide security for those who depend on you.

FAQs about life insurance for small business owners

Do you need life insurance if you own a business?

Yes, you should have life insurance if you own a business. Life insurance provides protection from business-related debt, helps replace your income, and can assist with succession planning. It’s a supportive measure to ensure you don’t leave business partners with debt or loved ones with financial support if you pass away.

What insurance do I need as a small business owner?

When you run your own business, there are different types of insurance you can obtain. The type of insurance depends on your needs. Some common types of insurance include term life, permanent life, and buy sell insurance. You can obtain additional coverage by adding riders to your insurance policy, such as for a child. Unlike employee benefits, you’re responsible for setting up financial safety nets to preserve your business and your loved ones. 

What insurance do I need if I’m self-employed? 

Some of the types of insurance you may need if you’re self-employed include life, disability and critical illness. Each product helps protect you and your loved ones should you develop a serious illness, need to go on short- or long-term disability, or in the event of your death. They offer peace of mind for you and your loved ones.

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