Lesson 4 of 8 · Advanced Life Insurance Concepts

Life Insurance for Business — Buy-Sell Agreements & Business Succession

How businesses use life insurance: keyman cover, funding a buy-sell agreement among owners, cover assigned to a lender, what the Indian Partnership Act says about a partner's death, and the income-tax treatment of premiums and proceeds.

Fact-checked 8 October 20265 practice questions in the game

Why a business insures a life

A business can lose money when a particular person dies: a founder who brings in the customers, a partner whose share has to be bought out, a borrower whose loan is still running. Life insurance taken for the business turns that uncertain loss into a known premium.

Three uses are common. Keyman insurance covers the business against the loss of a person whose death would hurt its earnings. Life insurance can fund a buy-sell agreement among the owners. And a policy can be assigned to a lender as security for a business loan. Each of these serves the business itself.

Keyman insurance

In keyman insurance the business takes the policy, pays the premium and receives the claim; the key person is only the life assured. Keyman cover is term insurance. The business needs an insurable interest in the person's life, and in life insurance that interest is tested when the policy is taken, not at the time of the claim.

How much cover a person's role can support is an underwriting matter. Insurers look at measures such as the person's pay, contribution to profits or the cost of replacing them, and their methods and limits differ from insurer to insurer.

Buy-sell agreements and the partnership rule

A buy-sell agreement is a contract among partners or shareholders that fixes what happens to an owner's share on death or exit. Life insurance is often used to fund it, so that the money to buy the share is there when it is needed. In a cross-purchase arrangement each owner insures every other owner, which takes n × (n − 1) policies for n owners.

The agreement matters most in a partnership. Under section 42(c) of the Indian Partnership Act, 1932, a firm is dissolved by the death of a partner, subject to contract between the partners. A clause in the partnership deed or a separate agreement can therefore keep the firm going. A company or a limited liability partnership is not dissolved by a member's death.

Tax treatment

Expenditure laid out wholly and exclusively for a business is deductible under section 34 of the Income-tax Act, 2025 (old section 37(1)). Keyman premiums are usually claimed under this provision where the policy genuinely protects the business; the result depends on the facts of each policy.

Keyman policies are excluded from the exemption for life-policy proceeds in section 11 read with Schedule II (old section 10(10D)). The amount a business receives under such a policy, even on death, is therefore taxable as its income, whether or not the premium was claimed as a deduction.

Life cover for the promoter's family members is different in kind. It protects the family, not the business, so its premium is a personal expense and not business expenditure, even if the firm pays it.

Rules at a glance

Death of a partnerFirm is dissolved, subject to contract between the partnersIndian Partnership Act, 1932, section 42(c)

Business expenditureDeductible if laid out wholly and exclusively for the businessIncome-tax Act, 2025, section 34 (old 37(1))

Keyman policy proceedsExcluded from the exemption; taxable as income of the businessIncome-tax Act, 2025, section 11 read with Schedule II (old 10(10D))

Cross-purchase policiesn × (n − 1) for n ownersArithmetic: each owner insures every other owner

Insurable interest in life insuranceTested when the policy is takenNot at the time of the claim

Illustration

Four uses, one of them personal

Illustration: a family-run printing firm pays the premiums on four policies. The first is on its head of sales, whose death would cost the firm orders: keyman cover. The second set funds the partners' buy-sell agreement. The third is assigned to the bank as security for the firm's machinery loan. All three protect the business.

The fourth is a policy on the life of a partner's wife, who has no role in the firm. It protects the family, not the business, so its premium is a personal expense and not business expenditure.

Worked example

Counting and sizing cross-purchase policies

Assumptions, for arithmetic only: a firm with 4 equal partners, valued by their agreement at ₹6,00,00,000.
Number of policies = n × (n − 1) = 4 × 3 = 12. With 3 partners it would be 3 × 2 = 6; with 5 partners, 5 × 4 = 20.
Value of one partner's share = ₹6,00,00,000 ÷ 4 = ₹1,50,00,000.
If a partner dies, the 3 survivors buy that share equally: ₹1,50,00,000 ÷ 3 = ₹50,00,000 each. So each partner holds a policy of ₹50,00,000 on each of the other three.
Check: total cover on any one partner's life = 3 × ₹50,00,000 = ₹1,50,00,000, the value of that partner's share.

Result. Four partners need 12 policies of ₹50,00,000 each on these assumptions. The valuation is invented; a real agreement sets its own value and method.

Key points

Keyman insurance covers a business against the loss of a person whose death would hurt its earnings; the business is the policyholder and receives the claim.
A buy-sell agreement fixes what happens to an owner's share on death or exit, and life insurance is often used to fund it.
A cross-purchase arrangement among n owners takes n × (n − 1) policies: 12 for four partners.
A partnership firm is dissolved by a partner's death unless the partners have agreed otherwise.
Business expenditure is deductible under section 34 of the Income-tax Act, 2025 (old section 37(1)).
Keyman policy proceeds are taxable as income of the business, even when paid on death.

Common misunderstandings

A keyman policy's death benefit is not tax-free: keyman policies are excluded from the exemption, so the business is taxed on what it receives.
A partnership does not automatically continue after a partner's death: it is dissolved unless the partners have agreed otherwise.
Four partners in a cross-purchase arrangement do not need four policies: each insures the other three, making 12.
A premium is not business expenditure merely because the firm pays it: cover for the promoter's family is a personal expense.
A deduction for a keyman premium is not automatic: it depends on the policy genuinely protecting the business and on the facts of the case.

Questions people ask

Who receives the claim under a keyman policy?

The business that took the policy. The key person is the life assured, not the beneficiary.

Is a company dissolved when a shareholder dies?

No. A company or a limited liability partnership is not dissolved by a member's death. The dissolution rule is for partnership firms, and it is subject to contract between the partners.

Which section of the Income-tax Act, 2025 replaced the old section 37(1)?

Section 34, from 1 April 2026.

What does a buy-sell agreement achieve?

It fixes in advance what happens to an owner's share on death or exit, and insurance funding provides the money to carry it out.

What this lesson relies on

Indian Partnership Act, 1932 — section 42(c)
Income-tax Act, 2025 — section 34; section 11 read with Schedule II
Income-tax Act, 1961 (replaced from 1 April 2026) — sections 37(1) and 10(10D), for the old numbering
Insurance Act, 1938 — assignment of policies (section 38)

This lesson was reviewed independently against these sources on 8 October 2026. Rules change: check the current regulation, scheme document or policy wording before relying on any figure. This is education, not advice.