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News & Views |Congress Targets Charitable Split Dollar InsuranceFriday, June 11, 1999 OnLine Individual taxpayers who want lower life insurance premiums still will have a way to reduce premium costs, even if Congress gives final approval to a House Ways and Means Committee proposal to eliminate the so-called charitable split dollar life insurance transaction. The House Ways and Means Committee June 10 approved trade legislation that included a repeal of charitable split dollar life insurance as one of several measures required to pay for the bill. The advertised advantage of a charitable split dollar life insurance transaction is that taxpayers were told they would get both lower life insurance costs and a deduction for a gift to a charitable organization. The charitable split dollar life insurance transaction was derived from the plain vanilla split dollar life insurance transaction, which Congress currently does not have under scrutiny. Pending Legislation House and Senate lawmakers do not like the so-called charitable split dollar life insurance idea because they believe it undermines the spirit of the tax-exempt regime. "We are concerned that this type of transaction represents an abuse of the charitable contribution deduction. We are also concerned that the charity often gets relatively little benefit from this type of scheme," said House Ways and Means Committee Chairman Bill Archer, R-Texas. Archer made this remark to the House when he announced his intention to shut down charitable split dollar life insurance. Rep. Charles Rangel, D-N.Y., joined Archer in introducing the bill (H.R. 630) to eliminate this transaction. Across Capitol Hill, Senate Finance Committee Chairman Bill Roth, R-Del., included the provision in an education bill that his panel approved May 19. Nuts and Bolts Here is how the transaction purports to work: A taxpayer makes a contribution to a charitable organization described under Internal Revenue Code 170(c). The taxpayer then deducts the contribution on his or her individual income tax return. In return for the contribution, the charity agrees to pay the premiums on the taxpayer’s "personal benefit contract," such as cash value life insurance, annuity, and/or endowment contracts. A "personal benefit contract" does not include charitable remainder trusts or charitable lead trusts. At the taxpayer’s death, the charity will receive a portion of the policy’s proceeds. In most arrangements, the charity would receive at death the greater of the premiums paid by the charity or the cash surrender value. In other words, the charity gets its investment plus a modest return, and the donor gets insurance equal to the death benefit above the cash value. Archer’s bill would deny the charitable deduction for the transfer to a tax-exempt organization, if in connection with the transfer the organization pays any premium on any "personal benefit contract" with respect to the transferor, or there is an understanding that any person will pay any premiums on any "personal benefit contract" with respect to the transferor. The bill applies to transfers after February 8, 1999. |
More Traditional Way to Lower Premiums The ordinary split dollar agreement traditionally is used as an employee benefit for a key executive or a closely held business’s shareholder who wants to reduce his or her life insurance premiums. Under most arrangements, the employer pays most or all of the life insurance premium and the employee would receive the taxable economic benefit equal to the term cost on a single life policy. The employee also could make the payment of the equivalent economic benefit directly to the insurance company or employer. The taxable value of the economic benefit is determined by the Treasury Department’s Pension Service table 58, commonly called PS 58. The structure of the split dollar life insurance transaction will depend on the insured’s age, health and other factors. The PS 58 benefits can be significantly lower than the premium, if the insured is relatively young. As the insured ages, the relationship of the PS 58 benefits to the cost of the premium flips, so the premium costs less than the PS 58 cost. For example, assume a 50-year-old employee wants $15 million in life insurance. The employee would purchase a cash value life insurance policy premium, but the premium could be over $270,000 per year for 15 years. Alternatively, the employee also could enter a split dollar life insurance transaction in which the employer pays the premium and the employee pays the tax on the PS 58 benefit, which would increase annually as the insured ages. In the first year of a split dollar arrangement, the employee would only need to pay
the PS 58 cost of $22,500. On the other hand, the company could pay the PS 58 cost and tax
the employee on the amount as additional compensation. Over the life of the policy the PS
58 amounts would increase as follows:
At the end of the 50-year-old taxpayer’s 25.5-year life expectancy, the PS 58 cost would be $165,000. From the employer’s point of view, the premium is not entirely an expense because a portion of it creates a cash value in the policy that may be reflected on the employer’s books as an asset. |
Congress Wants To Shut Down Arrangement Several members of the House of Representatives are concerned over taxpayers taking advantage of the charities with the charitable split dollar arrangements. House Ways and Means Committee member Rep. Gerald Kleczka, D-Wis., said, "Hungry charities do the dirty work and then are rewarded with a few crumbs off the donors’ estate table." Kleczka introduced his own bill, the Charitable Integrity Restoration Act, H.R. 572, on February 4, 1999. If Archer’s and Rangel’s bill passes into law, H.R. 630 would put an end to the charitable deduction for an individual making a contribution to a charity with a direct or indirect related payment of a personal benefit contract by the charity either before or after the contribution. Furthermore, any charity participating in such arrangements will be subject to an excise tax equal to the premiums paid. Under H.R. 630, the denial of the tax deduction for contributions would be in effect
for any contributions made after February 8, 1999. The excise tax would be in effect for
any premiums paid after the date of enactment. |
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