Pays out to the business — not the individual's family — if a key director or employee dies or is diagnosed with a critical illness, covering the financial impact of losing them. Here's how it works, how much cover makes sense, and the HMRC rules that decide whether premiums are tax-deductible.
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Key person insurance is life and/or critical illness cover taken out by a business on someone whose loss would seriously damage it financially — with the payout going to the business itself.
Whether premiums are tax-deductible — and whether any payout is taxable — depends on HMRC's long-standing guidance, commonly known as the Anderson Rules.
For premiums to be treated as a deductible business expense, HMRC generally expects the sole purpose of the policy to be covering loss of profit from losing the individual, the cover to be short-term (broadly, term assurance rather than a policy with investment value), and the policy not to be designed to cover a capital loss.
Where the Anderson Rules conditions are met and premiums are treated as deductible, any payout received by the business is generally treated as a taxable trading receipt — the tax treatment cuts both ways.
Where the conditions aren't met, premiums aren't deductible, but a payout may then be received free of tax as a capital receipt — the two outcomes are effectively mirror images of each other.
Lenders offering loans against a personal guarantee from a director frequently require key person cover as a condition of the facility, to protect their own position if that individual dies or becomes seriously ill.
Cover is typically calculated using one of a few common approaches, depending on the reason you need it.
A common approach is 5–10 times the key person's annual salary and benefits, as a rough proxy for their value to the business.
Cover based on the proportion of turnover or profit directly attributable to that individual — often used for a key salesperson or rainmaker.
Where cover exists specifically to satisfy a lender, the sum insured is usually set to match the outstanding loan or guarantee.
An estimate of recruitment, onboarding and lost-productivity costs while a replacement is found and trained.
A few things worth checking before you buy, whichever UK insurer or broker you compare.
Expect medical underwriting similar to personal life insurance, based on the key individual's age, health and sometimes occupation — build in time for this in your planning.
Decide whether you need cover for death only, critical illness only, or both — critical illness cover responds to a serious diagnosis even where the person survives but can't work.
Have your accountant confirm in writing how the policy will be treated for tax purposes before you rely on a particular assumption.
Before buying, confirm any insurer or broker is authorised and regulated by the Financial Conduct Authority — check the register at register.fca.org.uk.
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Explore related cover types in our commercial insurance knowledge base.
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