Split-dollar Life Insurance

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	Split-dollar Life Insurance Personal Finance Advisor by Deloitte & Touche OnLine August 2, 1999

Companies and their executives share this high-value benefit.

Businesses can use split-dollar life insurance arrangements to provide a substantial amount of insurance coverage on key executives or employees. Split-dollar life insurance is permanent insurance acquired under an arrangement in which the company and the individual share the cost of the policy as well as the benefits and proceeds.

Permanent Insurance: There are two basic types of permanent insurance: whole and universal life. Whole life insurance is a cash value (CV) policy with a fixed death benefit that endows at age 100. Whole life premiums are higher than term insurance premiums, but are fixed for the insured’s lifetime. A minimum CV is usually guaranteed, and the insured can borrow against this amount.

Universal life insurance is a CV policy; however, these policies permit the insured to adjust the premiums (within limits) and increase or decrease the death benefit. Benefits also may increase or decrease with changes in the policy’s CV. Because the insured earns market rates of return on the policy’s CV and assumes a portion of the investment risk, universal life premiums usually are lower than whole life premiums, but higher than premiums for term insurance.

Split-Dollar Policies: There are also two basic types of split-dollar insurance arrangements: endorsement and collateral assignments:

Endorsement: The employer owns the life insurance policy and endorses the death benefit interest to the individual. The employer pays the majority or all of the premiums, with the individual contributing the economic benefit amount or including this amount in his/her income (see further discussion below).
Collateral Assignment: The individual owns the policy and the employer pays the majority or all of the premiums. The individual contributes the economic benefit amount or includes this amount in his/her income (see further discussion below). The individual assigns a security interest in the policy to the employer in an amount equal to the premiums paid by the employer. The employer contributions generally are recovered upon the death of the insured or termination of employment.

Income Tax Treatment: The IRS has concluded that an individual covered by a split-dollar arrangement receives an "economic benefit" (i.e., the individual is entitled to benefits in excess of the amount payable to the employer), and therefore, should pay (or be taxed on) a computed portion of the premium. In making this calculation, one of the following two tables is used. As a general rule, Pension Service Release No. 58 (PS-58) is used to calculate the economic benefit on single life insurance policies, and U.S. Life and Actuarial Table 38 (Table 38) is used to calculate the economic benefit on joint life insurance policies. The amount of economic benefit included in the individual’s income (or paid by the individual) is determined by multiplying the insurance benefit payable to the individual by the lesser of (1) the insurance company’s generally available term life insurance rates, or (2) the PS-58 or Table 38 rates.

The individual pays this computed amount directly to the insurance company or the employer, or the amount is treated as other taxable wages paid to the individual (reported on Form 1099R).

Rollouts: The employer’s interest in the policy is released (rolled-out to the insured) when the split-dollar agreement is terminated other than by the insured’s death and the individual repays the employer’s investment in the policy.

Estate Issues: With a split-dollar life insurance arrangement, death proceeds from the policy (less any amount due the employer) generally will be included in the individual’s estate. This can be avoided if the individual transfers his/her ownership interest to an irrevocable life insurance trust (ILIT). After ownership is transferred to an ILIT, the individual will make a gift each year of the PS-58 (or Table 38) amount to the ILIT, which will be used to pay the premiums related to the trust’s economic benefit in the policy.

Charitable Contributions: The IRS recently issued Notice 99-36 on charitable split-dollar arrangements. Contributions made with the intent to have a charity enter into a split-dollar life insurance arrangement with a donor’s family/trust will not qualify for a charitable deduction. Charities participating in such arrangements may jeopardize their tax-exempt status.

These are some thoughts to consider about split-dollar life insurance arrangements. Your Deloitte & Touche financial advisor also can provide information and should be consulted before any action is taken.