Life insurance provides the reassurance of knowing that if something happened to you , your loved ones would be protected. The death benefit passes income-tax-free to beneficiaries and can be used for a variety of financial needs, such as replacing lost income and paying down a mortgage or other debt.
Life insurance can also play a role in helping with business planning strategies.
What is an executive bonus plan?
With an executive bonus plan, an employer pays an annual bonus to an employee, which can be used by the employee to purchase a fixed indexed universal life (FIUL) insurance policy.
How life insurance can be part of your bonus plan
Many businesses choose to pay their bonuses in cash. However, there is a different option that can help reward and retain your key employees, while providing a tax deduction for your business.
Under Section 162(a)(1) of the Internal Revenue Code, businesses are allowed a tax deduction (up to certain limits) for salaries and other compensation, which includes certain executive bonuses.
With an executive bonus plan, an employee's bonus can be used by the employee to purchase and pay the entire premium for a fixed indexed universal life insurance policy- which the employee owns.
This premium can be deducted as a business expense since it is considered compensation. The premium payment is reported as "other compensation" on the employee's W-2 statement.
This offers several benefits to your employees, including:
- Helping them feel valued and appreciated
- Having ownership and control of their policy
- Offering an income-tax-free death benefit for their beneficiaries
- Providing potential cash value that accumulates tax-free through policy loans or withdrawals to help supplement retirement income (if the policy is not a MEC)1
- Having a policy that is portable
Additionally, you can decide who is eligible to receive a bonus and in what amount, tie the bonus to company performance or individual goals, and start or discontinue the bonus at any time.
However, the executive owns the policy. If you stop paying annual bonuses, the employee, as the owner of the policy, would be responsible for paying the policy premiums to keep the policy in force.
An executive bonus plan offers these benefits:
- The bonuses are tax-deductible for you, the employer.
- You have full discretion on who you select for the bonus plan.
- No Internal Revenue Service (IRS) approval is needed.
- There are no maximum or minimum contribution requirements, which is typical in most qualified retirement plans. However, the life insurance policy will have a minimum or maximum premium limits.
1 Policy loans are not usually subject to income tax unless the policy is classified as a modified endowment contract or MEC under IRC Section 7702A.