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Quantum of Keyman insurance

17 January 2011

Are there any circulars in Income tax which specifies the quantum of insurance which is permissible for a key man. Are there any restrictions for the payment of excess premium in ULIP plans which have this as an inherent feature. Decisions or income tax circulars to this effect are required?

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U S Sharma (glidor@gmail.com) (21063 Points)
Replied 17 January 2011

Suitability

Key Man is the life Insurance, taken by a Company, on the life of an Employee Director whose services have significant effect on the profitability of the company and whose premature death will adversely effect its profitability, stability and progress. There can be even more than one Key man in a company.

Objective

The object of key man Insurance is to protect the company from the adverse financial effect by the Key Employee or Key Director’s death by making funds available to the company in his absence. The company’s progress and profit, usually depends upon the vital decision or technical expertised skill, knowledge, entrepreneurial vision of its Key Director or Key Employee, particularly in this competitive Globalised marketing Environment.

Today’s company’s expansion diversification, and setting up policy depends upon its Far sighted Vision, decision, technical know-how of the Key Director and Key Employee and that’s required to be secured by purchasing Key-man Insurance for making funds available for promoting, recruiting in the absence of Key-man includes key-woman. This policy is specially purchased by the company (both Pvt. and Pub Ltd. Co.) for the life of its single most important Key person.

BENEFITS

SUBSTENTIAL INCOME TAX SAVINGS: The premium paid by the company for an insurance policy taken on the life of Key-man is a permissible BUSINESS EXPENDITURE U/S 37 (1) of I.T. Act,1961.( Refer CBDT letter No. 35/12/64-11 Dt.03.02.1964 addressed to L.I.C.& Finance bill 1996. Hence sizeable premium paid will be covered by significant savings in income tax and thereby reduce the Tax Liability.

INDEPENDENT SINKING FUND

The company is able to create an asset for itself in the form of premiums paid.

PROTECTION AGAINST FINANCIAL LOSSES

The company suffers a heavy financial losses in case of premature death of its Key Man whose decision, technical knowledge, experience have significant contribution in company’s progress, profit and success. A person can not be replaced but making the provision of an independent sinking fund, the company can promote the second line managerial leadership (giving time to get trained and experienced) or purchase the services. This will Protect the interest of the other Employees, Creditors, Salesman, Financial Institutes, Shareholders, Clients etc. and keep the company’s position stabilized in the competitive market.

CLAIM AMOUNT

Since the insurance is taken for the benefits of the business and is Allowed as business Expenses, the premium paid is not treated as perks in the hands of the K.M. (Refer CBDT letter Dt. 03.02.1964, addressed to L.I.C.)The death proceeds will not be taxable.

Maximum allowable Sum Assured under KMI
This depends upon the nature, size and business of the Company and the importance of key person in execution of job/business with the help of his qualification/experience to make the company, profitable. Maximum allowable S.A. will be lower of the following:

5 times of average net profit after making provisions for depreciation and Income Tax
Two to three times of the G.P .(Net profit + Depreciation + Income Tax).

KeyMan Insurance:
Given below are various requirements for Key-Man insurance proposal:

Copy of Memorandum & Articles of Association
Copies of Audited Balance. Sheet and P&L A/Cs for previous 3 years
Certified true copy of board resolution passed in the Meeting of Board of Directors containing following information:
- Sum assured desired
- Plan allowed - 14, 48, 164, 93, 95, 88, 140 of LIC
- Name & sig. of the person who is authorised to complete proposal papers
- The use of seal of the company
Key man Questionnaire is to be completed in the persons hand format and the same is to be signed by the authorised person under the seal of the Company
Copies of I.T.returns of the Co. for proceeding 3 yrs
Consent for the endorsement to be placed on the policy
Revised Key-Man Questionnaire annexed is to be attached