Business Life Insurance Needs Calculation Practice Questions

These original numerical cases practice needs analysis rather than setting universal coverage rules. A key-person estimate may use replacement costs, lost contribution, or a defined transition period. A buy-sell estimate follows the agreement’s valuation and ownership percentages. Debt protection begins with the balance and any other resources or insurance. Keep revenue, profit, gross salary, business value, debt, and insurance proceeds distinct. The Texas Life Agent outline tests business insurance concepts; a real business should coordinate its agreement, accounting, legal, tax, and insurance advisers.

Question 1: Key-person contribution

Question 2: Replacement cost vs salary

Question 3: Buy-sell proportional obligation

Question 4: Cross-purchase policy count

Question 5: Entity purchase allocation

Question 6: Business debt net of dedicated funds

Question 7: Key-person multiple as stipulated

Question 8: Buy-sell valuation changes

Question 9: Proceeds and premium deduction

Question 10: Select the obligation, not the product label

Key-person worksheet

Begin with a defined loss measure and period: replacement search, interim salary, lost contribution, client transition, debt covenant, or other documented impact. Add only amounts relevant to that loss period and subtract resources available to the business. Avoid multiplying gross revenue by years when profit contribution is the stated basis. A simplified two-year estimate is not a universal rule; discounting, expenses saved, replacement timing, and other personnel can materially change the need.

Buy-sell worksheet

Read whether the buyer is the surviving owner or the entity. Confirm ownership percentages and whether the agreement uses fixed price, formula, appraisal, or book value. Then calculate the payment for the transferred interest and reconcile it with existing policies and other dedicated funds. Cross-purchase and entity-purchase arrangements place policy ownership and proceeds differently, with implications for administration and tax. Keep the agreed purchase price distinct from the total enterprise value.

Tax and consent review

A business policy can implicate federal income and estate tax, premium deductibility, transfer-for-value, employer-owned life insurance notice and consent, and reporting rules. IRS Publication 334 discusses limits on deducting premiums where the business is beneficiary. Section 101(j) may apply to employer-owned policies and includes written notice/consent requirements with exceptions. Do not promise that proceeds are tax-free in every structure or that premiums are deductible. Review current law with a qualified tax adviser.

Use a transparent key-person model

A practical worksheet identifies the loss event, the business impact, duration, and resources. If an owner expects a 12-month search and estimates $80,000 for recruiting and temporary management plus $150,000 of lost contribution, the gross transition need is $230,000 under those assumptions. If the business has $50,000 earmarked for the transition, the simplified net need is $180,000. This does not prove that $180,000 is the correct face amount: timing, ongoing premiums, taxes, expenses saved, and insurer underwriting still matter. The value of the worksheet is that each number has a named source rather than an unexplained salary multiple.

Separate business value from purchase price

If an enterprise is valued at $4.5 million and a departing owner holds 30%, a simple proportional value is $4.5 million × 30% = $1.35 million. But a buy-sell agreement may specify a different formula, apply discounts, subtract debt, or use an appraisal. If the agreement’s required price is $1.2 million and $900,000 of insurance is already in force for that purpose, the preliminary gap is $300,000 before other funds. The calculation must use the contractually required purchase price, not a casual estimate of gross enterprise value. Confirm date, valuation method, ownership, and who has the obligation to buy.

Compare cross-purchase with entity purchase

For n equal owners in a standard cross-purchase arrangement, each owner typically owns insurance on every other owner, resulting in n × (n−1) policies. Four owners would yield 4 × 3 = 12 policies if every surviving owner must be funded to buy each other owner’s interest. In an entity-purchase arrangement, the company buys a policy on each owner; four owners may mean four policies. The structure affects policy ownership, premium payer, beneficiary, basis, and administration. A case asking only for the policy count still expects the ownership pattern, not an assumption that every business uses the same plan.

Calculate a debt need with timing

Suppose a business owes $900,000 at death, has $100,000 in cash dedicated to debt service, and $250,000 of lender-assigned life insurance. Under a simple immediate payoff model, the residual is $900,000 − $100,000 − $250,000 = $550,000. If the loan also has accrued interest, fees, or a prepayment charge, include those only when the problem supplies them. Confirm that the existing policy remains in force and the lender assignment is valid. A policy owned by the business with a different beneficiary may not be available for a lender claim. Reconcile resources to the exact liability they are intended to fund.

Review employer-owned policy compliance

A business policy on an employee can trigger written notice and consent requirements under Internal Revenue Code section 101(j), along with reporting and exceptions. The employee generally must be notified in writing before issue that the employer intends to insure the employee, the maximum coverage amount, and that the employer may be a beneficiary; written consent and other records are important. Special exceptions can apply, and the details must be checked against current law. The business should document the insured’s status, consent, policy issuance, beneficiary, and any required Form 8925 reporting. Do not assume owner-employees are exempt from notice and consent.

Distinguish policy proceeds from premium deduction

A business may be both premium payer and beneficiary. IRS Publication 334 generally explains that premiums on life insurance are not deductible if the business is directly or indirectly the beneficiary. The income-tax treatment of proceeds has its own rules and exceptions, including employer-owned contract rules; a statement that death proceeds are generally excluded does not erase every exception. For test purposes, the safe response is to reject absolute claims about deductibility or tax-free proceeds. For an actual arrangement, have tax counsel review ownership, beneficiary, notice and consent, transfer history, and applicable reporting before the policy is issued.