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The good news is that the new proposed regulations on split dollar life insurance arrangements only address prospective plans, according to Albert J. Bud Schiff, president of the Association for Advanced Life Underwriting, so it looks like existing plans will follow the rules stated in Notice 2002-8.

The proposed regulations state that any split dollar arrangement entered into prior to the publishing of final regulations may follow the rules set forth in Notice 2002-8. (See NU, July 15.)

But the Treasury Department did make some changes to how split dollar will be treated prospectively, while clearing up some of the uncertainties seen in the previous Notice, according to experts in the industry.

“In 2002-8, they introduced two different tax regimes. Now in the proposed regulations they give it a lot more detail,” says Keith Buck, an advanced sales attorney with The Hartford, Simsbury, Conn., who is also on the American Council of Life Insurers split dollar task force.

“Basically, the economic benefit regime applies to endorsement split dollar and non-equity collateral assignment split dollar arrangements,” Buck says. Therefore, he adds, equity split dollar arrangements will be treated under the loan regime. “Its treated as a loan, and you have imputed interest.”

One of the major changes seen in the proposed regulations is the treatment of employee equity buildup in equity split dollar arrangements. The phrase “economic benefit” was formerly associated with the term costs of the insurance coverage for an employee. Now, the proposed regulation makes it clear that equity is also an economic benefit that should be recognized as its received every year, according to Doug Lawson, 2nd vice president, advanced sales, at Travelers, Hartford, Conn.

“We were hoping that under the proposed regulations you could defer the recognition of that equity every year,” he says.

Since some form of tax will be paid on any economic benefit the non-owner receives (including cash value growth), some professionals feel that this is one way the IRS will try to tax the inside buildup of cash value in a life insurance contract, says Buck.

Lisa ODay agrees and feels that this is a part of the proposed regulation that should be revised. ODay, vice president of advanced sales, at Jefferson-Pilot, Greensboro, N.C., says, “This creates a tax in equity for life insurance. I think this is something wed like to see done away with.”

But Mark Teitelbaum, 2nd vice president of advanced sales at Travelers, disagrees. “I think there is some merit to how the IRS is looking to tax this; after all it is a benefit that is being bestowed upon an employee.”

Another change that has drawn some attention is the clarification that a non-owner will not receive any basis in the life contract for contributions made for the economic value of the life insurance, says Schiff.

“Theyve indicated for the first time that the employee gets no basis, and thats true whether the economic benefit cost is imputed to them, or if they contribute that amount,” adds Buck.

The employee doesnt get any basis for paying a portion of the premium and the employer lost the deduction it previously had for bonusing the economic benefit to the employee, Buck explains.

Schiff feels that this type of treatment will have a very negative impact on both parties to the agreement when it is a contributory type of plan. “You probably wont see many contributory type plans going forward under this arrangement. We think some of that needs to be adjusted and changed,” Schiff says.

The IRS has also introduced something new–called the life insurance premium factor–to determine the value of the insurance economic benefit, says Buck. “They didnt show it to us yet, but they said it was coming.”

The proposed regulation says the new premium rate factor will be released in the upcoming final regulations.

“I think many of us believe that the IRS will move away from insurers alternative term rates, and even perhaps move away from table 2001,” says ODay. “What that factor is and whether its a fair representation will also be subject to some argument.”

An area where the IRS has requested comments has to do with the treatment of 1035 exchanges, and whether a policy exchange in an older arrangement should now be considered a new arrangement, and thus follow the rules set forth in the proposed regulations.

“The proposed regulations say that any material modification to an arrangement would be considered a new agreement, but the IRS didnt define that.

“My personal opinion is that I think thats something the industry stands a good chance of getting–convincing the IRS that a simple 1035 exchange is not a material modification,” he says. “If the agreement was in place, who cares what the underlying policy is, the arrangement is still there,” he adds.

“It never clearly said that if you do a 1035 exchange you wont be making a substantial change to an existing arrangement,” says Teitelbaum.

For the past two years the AALUs split dollar task force has been working with both the Treasury Department and the IRS, providing input for developing the new regulations. That task force has now been split into two “sub-task forces”, Schiff says, that are designed to address existing arrangements, and what to do going forward with new plans.

“We have one group working to come up with marketing opportunities and what the correct approaches may be to examine existing plans,” he says. “We have another group going through these proposed regulations in great detail to come up with a strategy to look at what opportunities there might be, and to look at where we need to provide specific comments on the proposed regs.”

The comment period for the proposed regulations ends on Oct. 7, 2002, and there will be a public hearing held on Oct. 24, 2002.

A copy of the regulations can be found on the U.S. Treasurys Web site: www.treas.gov.


Reproduced from National Underwriter Life & Health/Financial Services Edition, July 22, 2002. Copyright 2002 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.