Key Employee Life Insurance Chapter 31 Tools & Techniques of Life Insurance Planning 31 - 1 What is it? Life insurance policy owned by and payable

Key Employee Life Insurance Chapter 31Tools & Techniques of Life

Insurance Planning

31 - 1

What is it? Life insurance policy owned by and payable to a business

Business insures the lives of employees who deaths would cause a significant loss to the business

When is the use of such a device indicated? When the financial soundness, profits, or a smooth business continuation would

adversely affected by the death of an key employee

When the success of a business depends on the unique skills and abilities of one or more key employees

When a business desires to fund one or more obligations of the business at the death of a group of key employee


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When is the use of such a device indicated? (cont'd) When creditors require business owners to co-sign or guarantee personal

responsibility for the business debts.

Assure stockholders of public business that the price of the stock will not plummet nor will dividends fall at the death of a key employee

Prevent a drop in business income from the loss of a key employee at a business that involves the rendering of personal services (legal, medical or other licensed professionals)

To help reimburse the business for the significant costs involved in searching for, finding and hiring a successor

To protect the financial interests of investors of the business


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What are the requirements Owned by and payable the corporation

Creation of a corporate resolution indicating that coverage has been purchased to indemnify the business for the potential loss at the death of a key employee

What are the tax implications? Premiums are not tax deductible

Generally, policy proceeds are free of federal income taxes

Where a key employee policy, or an interest in a key employee policy is transferred for valuable consideration, proceeds may lose their income tax free status


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What are the tax implications? (cont'd) Transfer for value exceptions

Policies that are transferred to The insured

A partner of the insured A partnership in which the insured is a partner

A corporation in which the insured is a shareholder or officer

Proceeds received by corporations could be subject to the Alternative Minimum Tax

Corporate earnings and profits will be increased by the excess of proceeds over cumulative premiums paid (term insurance) or corporate owned cash value (permanent coverage)


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What are the tax implications? (cont'd) Premiums paid by the corporation will not be taxed to the key employee as long as the key

employee had no current rights in the policy nor values

Interest paid on loans secured by key employee insurance are generally nor income tax deductible

Exceptions Four out of seven exception – At least four out of the first seven premiums are paid

without recourse to loans

$100 a year exception- Interest below $100 per year

Unforeseen event – If the debt is incurred because of an unforeseen substantial loss or income or substantial increase in obligations

Trade or business exception – Generally, if the debt is incurred in connection will the clients trade or business


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What are the tax implications? (cont'd) No estate tax inclusion if the insured hold no equity interest in the business

Death proceeds on the life of a sole or controlling shareholder Not included separately as life insurance in the insured gross estate

To the extent proceeds are paid to. or for the benefit of, the corporation

Proceeds are considered together with all other non-operating assets in the valuation process

Proceeds payable to a party other than the corporation or its creditors, will be included as life insurance in the insured shareholder estate

Proceeds payable to a partnership Increase the value of the insured’s partner’s proportional interest in the partnership for

estate tax purposes


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What are the tax implications? (cont'd) Proceeds payable to someone other than the partnership

Includible separately as life insurance in the gross estate of the insured partner

When the insured key employee quits, retired or is fired Business can sell the policy to the insured for valuable consideration

Transfer for value

Meets one of the exceptions so proceeds are income tax free

Transfer of the policy for less than adequate consideration Employee will realize taxable income equal to the difference between the fair market

value and what the employee paid.

If the employee pays more than the fair market value, the corporation will realize taxable income on the amount in excess of the fair market value


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What are the tax implications? (cont'd) Key employee sells policy to corporation

If employee is neither a shareholder nor officer, then transfer for value is triggered

Taxable gain will be realized by the seller to the extent that the amount paid by the corporation exceeds his/her net premium cost

Documents

Key Employee Life Insurance Chapter 31 Tools & Techniques of Life Insurance Planning 31 - 1 What is it? Life insurance policy owned by and payable