When entering a loan agreement, it’s important to plan for all scenarios that could impact your business’s future. Lenders like to think ahead too, which is why life insurance is part of SBA loans.
SBA loan providers may require life insurance when the untimely death of a business owner would impact repayment of the loan. This is particularly common in cases where:
- The business relies heavily on one individual (e.g., sole proprietors or owner-operators)
- Collateral is limited or primarily dependent on personal guarantees
- The loan term extends beyond the owner’s expected retirement
In short, lenders want to ensure the loan can be repaid even if something unfortunate and unexpected happens. A life insurance policy assigned to the lender helps fulfill that need and, more importantly, provides critical protection for those who rely on you.
What Kind of Life Insurance Do You Need?
There are two common types of life insurance used in SBA loans:
1. Term Life Insurance
This is the most commonly accepted option. It provides coverage for a set number of years — typically aligned with the length of your loan term — and is more affordable than permanent policies.
2. Permanent Life Insurance
This includes whole life or universal life policies. While not required, some borrowers choose these if they already have a permanent policy in place. However, lenders generally only require term coverage to cover the outstanding loan balance.
How to Set Up Life Insurance for Your Loan
To meet SBA and lender requirements, follow these steps:
- Work with a licensed insurance agent.
Choose an agent who understands SBA collateral assignment requirements and can quickly deliver a compliant policy.
- Match the coverage amount and term.
The policy should cover at least the total loan amount and remain in effect for the full duration of the loan, but make sure you consider your other life insurance needs beyond the loan.
- Assign the policy to the lender.
This step is critical. You’ll need to complete a collateral assignment of the policy, which legally names your lender as the beneficiary for the amount owed on the loan. As you pay off the loan, the amount of insurance available to your designated beneficiary increases.
- Provide documentation before closing.
Most lenders require a copy of the signed policy and the assignment form prior to funding. Start early to avoid delays.
Key Benefits for Business Owners
- Faster loan approval: A compliant life insurance policy helps satisfy SBA underwriting conditions quickly.
- Peace of mind: Your family and partners are protected from being personally liable for your business loan.
- Flexible coverage: You can often tailor coverage to decrease over time as your loan balance declines.
Final Thoughts
Life insurance isn’t just a personal safety net — it’s a strategic business tool. If your SBA loan application includes a life insurance requirement, don’t view it as a hurdle. Instead, see it as a safeguard that gives your lender the confidence to say yes and your small business a stronger foundation for long-term success.