How to Provide Tax-Free Life Insurance Benefits to Your Key Executives.
A Win-Win for the Company and Our Star Employee.
We wanted to reward our top executive. We used a “split-dollar” life insurance plan. The company paid the premiums for a large cash value policy on her life. When she passes away, her family will receive the death benefit completely tax-free. At that time, the company will also be reimbursed for all the premiums it paid. It’s a brilliant arrangement: we provide a massive, tax-free benefit to her family at a low cost, and we eventually get all our money back. It’s an incredible, tax-efficient perk.
The “Golden Handcuffs”: Using a Split-Dollar Plan to Retain Top Talent.
Our Competitors Can’t Afford to Poach Our CFO.
Our CFO is the lifeblood of our company. We couldn’t afford to lose her. We created a split-dollar plan that vests over ten years. The company funds a large life insurance policy for her. If she stays with us until retirement, she gains full control of the policy and its substantial cash value. If she leaves before then, she forfeits the company’s contributions. These “golden handcuffs” make it almost impossible for a competitor to lure her away. It’s a powerful tool for retaining our most indispensable people.
Executive Bonus Plan: The Simplest Way to Give Your Employee Benefits They Own.
We Gave Our Sales Manager a Raise to Buy His Own Policy.
We wanted to provide a life insurance benefit to our top sales manager, but we didn’t want a complex legal arrangement. The solution was a Section 162 Executive Bonus Plan. It was incredibly simple. We gave him a raise (a bonus) each year, with the understanding that he would use that money to pay the premiums on a life insurance policy that he personally owned and controlled. For us, it’s a simple, tax-deductible bonus. For him, it’s a fantastic, portable benefit he owns from day one.
Split-Dollar vs. Executive Bonus: Who Owns the Policy? Who Pays the Tax?
The Critical Distinction Between Control and Simplicity.
The main difference comes down to ownership and taxes. In an Executive Bonus plan, the employee owns the policy, and the bonus used to pay for it is considered taxable income to them (though it’s deductible for the company). In a Split-Dollar plan, the ownership and benefits are split between the company and the employee, with more complex tax rules but often greater control for the company. It’s a choice between the simplicity of a bonus versus the control and retention power of a split-dollar arrangement.
The “Endorsement Method” vs. the “Collateral Assignment Method” in Split-Dollar.
Two Roads to the Same Destination.
There are two main ways to structure a split-dollar plan. In the “Endorsement Method,” the company owns the policy and simply endorses a portion of the death benefit over to the employee’s family. In the “Collateral Assignment Method,” the employee owns the policy, and the company places a lien (a collateral assignment) on it to ensure they get their premiums back. Both methods achieve the same goal; it’s just a legal and accounting distinction that a specialist can help you choose.
Why an Executive Bonus Plan is Often More Attractive to the Employee.
I Own It. It’s Mine.
As an executive, I was offered a choice. The Section 162 Executive Bonus plan was far more attractive to me. My company gives me a bonus, I pay the tax on it, and I use the rest to fund a policy that is 100% mine. I control the cash value. If I leave the company, the policy goes with me, no strings attached. The split-dollar plan felt more restrictive, like the company still had its hooks in my benefit. The simplicity and total ownership of the bonus plan was a clear winner for me.
Using a Split-Dollar Plan to Fund an Executive’s Retirement.
The Policy Becomes a Tax-Advantaged Pension.
We set up a split-dollar plan for our CEO, but the goal wasn’t just the death benefit; it was retirement. The company aggressively funded a cash value policy for 15 years. At retirement, the plan terminated. The policy’s cash value was used to pay back the company’s contributions. Our CEO “rolled out” with the remaining six-figure cash value, which he can now access to provide a tax-advantaged income stream in retirement. It was a creative way to fund a massive, supplemental pension plan for him.
The Tax Simplicity of a Section 162 Bonus Plan: It’s Just a Bonus.
Our Accountant Loved This Plan.
When we were deciding on a benefit plan, our accountant strongly advocated for the Section 162 Executive Bonus plan. Why? Because it’s clean and simple from a tax and accounting perspective. The bonus is a regular business expense, fully deductible to the company. For the employee, it’s simply W-2 income. There are no complex legal agreements or convoluted accounting rules to follow, unlike a split-dollar plan. For companies that value simplicity, it’s the clear choice.
How a Split-Dollar Rollout Works at Retirement.
The Elegant Exit Strategy.
The “rollout” is the end game of a split-dollar plan. When the executive retires, the agreement is terminated. At that point, the cash value inside the life insurance policy is often used to pay back the cumulative premiums that the company contributed over the years. This makes the company whole. The executive then takes over the policy—now free and clear of the company’s interest—and can use the remaining cash value and death benefit for their own retirement and estate planning needs. It’s a planned, elegant exit strategy.
Choosing the Right Plan to Incentivize and Reward Your Most Valuable People.
What is Your Ultimate Goal?
The choice between a split-dollar and an executive bonus plan comes down to your primary objective as a business owner. If your goal is maximum retention and control over a truly indispensable employee—”golden handcuffs”—then the added complexity of a split-dollar plan is worth it. If your goal is to simply provide a valuable and flexible benefit to reward a key employee without creating a long-term entanglement, then the beautiful simplicity of a Section 162 bonus plan is the superior choice.