Disability Buy-Out Insurance
The Background
Business is full of risk – and business owners know it’s important to reduce potential risk exposure. They likely have plans in place for a variety of scenarios, from disaster recovery to diversifying revenue streams.
The Problem
Many business owners have not considered what they (and other owners) would do if one of them was too sick or hurt to help run the business. Having a written plan in place at the time of the event is critical – even if the plan is not funded.
The Client
Small businesses with more than one business owner. Owners are concerned about business continuation if one of them is injured or sick.
Why DBO
Disability Buy-Out (DBO) insurance funds a buy-sell agreement to buy out a totally disabled business owner. Make sure there is a written document in place addressing these three questions:
- What valuation will be used at the time of the buy-out?
- What is the elimination period needed before the buy-out begins?
- What is the timeframe needed to execute and complete the buy-out?
Key Person Disability is a simple solution to protect against the loss of an essential employee due to illness, accident or injury by providing funds for temporary replacement staffing or offsetting the cost of recruiting new talent. It helps assure clients and partners that the business is financially stable
How It Works
A disability valuation tends to be less – at times significantly less – than a life insurance valuation. Follow this initial formula to help create a tentative DI valuation:
- Add up all incomes, including distributions, from all ACTIVE owners
- Based on the type of business (there is some discretion here), use a multiplier of 1 to 5 on those incomes
- Add in any book value of the business – what is owned versus what is owed
- Divide the overall number by the percent of ownership for each owner
Unlike what you might see in a life valuation, there is not a goodwill multiplier or a gross sales multiplier. The initial disability valuation with tax documents is straightforward.
Elimination Benefit Period
The elimination period gives the disabled owner a chance to recover before the DBO begins. The elimination period must be a least a year but can extend to 18 or 24 months. Once the DBO begins, the benefit period can be:
- Lump-sum
- Monthly funding for 24, 36 or 60 months
- A combination of the two
The Result
When you protect a business, you’re protecting more than an owner. You’re protecting their family, partners, employees – even their vendors. Disability insurance keeps the doors open. It ensures everyone who relies on the company maintains the income they depend on.
