Agents May Find Opportunity In Split-Dollar Rescues

By Randall S. Macon

In the coming months, many employers sponsoring split-dollar plans will be re-evaluating those arrangements in light of recent IRS pronouncements and the looming Dec. 31, 2003, deadline.

Important business decisions will have to be made about each plans future. Should the existing split-dollar agreement be terminated, recast into one of the new “regimes” or continued “as is?” A proper decision about the fate of each plan will, in large part, depend upon the availability of accurate information on its current status.

Unfortunately, up-to-date split-dollar plan accounting is rare and, as a result, many plan sponsors may find they have insufficient information to determine which option best suits their situation.

Historically, it has fallen upon life insurance professionals to track and properly administer the split-dollar plans they sold and installed. Indeed, many have done an outstanding job of ensuring that their plans were carefully documented at the outset and that participants reported appropriate “economic benefit” amounts along the way.

Professionals in this category can easily advise their split-dollar clients on the plans current status as well as recommend a tax-smart strategy for the future. They likely work closely with their clients CPA and may even utilize some third-party administration for their larger business insurance cases. Clearly, employers sponsoring split-dollar plans under the guidance of this kind of professional will be the lucky ones in their upcoming decision process.

There is, however, a potentially larger category of split-dollar arrangements. These are the unadministered or ill-administered plans that were sold with great fanfare and then left to flounder. Plans in this category will include those in which no split-dollar document was ever drafted, drafted carelessly or simply misplaced through the years. It will also include those plans in which participants have not been reporting as income the required “economic benefit” and no one seems to know exactly what portion of the whole belongs to the employer and what portion belongs to the employee.

Furthermore, the insurance carrier that issued the policies may know even less. While the carrier may have originally recorded collateral assignments and noted in its policy files that the plans were “split dollar,” it seldom has information on plan details. Consequently, the employers CPA and/or new insurance professional must perform significant detective work to determine the plans current status before they can even begin to develop a strategy for the future.

The marketing opportunity for the insurance professionals referenced earlier may come in the cleanup process itself. Agents who engaged in “hit and run” planning will likely be AWOL. This means that knowledgeable and professional producers experienced with split-dollar-based plans will be invaluable in evaluating existing arrangements and, if appropriate, developing an attractive “rescue” strategy.

The process seemingly should begin with some basic questions about the plans original purpose and design. For example, is the plans so-called “equity split dollar” of the type under attack by IRS? If so, is its primary purpose to provide the insured employee with a death benefit either in or outside the estate?

Or, is the plan being funded as a cash accumulation vehicle to perhaps provide a retirement supplement? Does the employer expect to recover its premium contributions at “rollout” or did the plans designer contemplate a “crawl out” or lump sum transfer of the employers interest to the employee?

These general questions will lead to a more detailed inquiry about the plans date of implementation, the premium split, the measure of economic benefit, product performance, and ultimately, where the plan stands currently (i.e., who owns what?).

The next step will require thorough fact finding to determine if the goals of the employer or the employee have changed in the interim. In the final analysis, all of this intelligence will have to be carefully weighed in developing a recommendation for plan years beyond 2003.

Should rescue recommendations for troubled split-dollar plans include Section 1035 exchanges of the underlying policies for new policies structured to be in compliance with proposed regulations? And, should they be accompanied by more diligent plan administration? Certainly these questions have no absolute answer.

Some industry experts have suggested that any plan bearing a pre-Jan. 28, 2002, date should be left alone to avoid loss of the “safe harbor provision” included in IRS Notice 2002-8, allowing the continued substitution of the insurers term rates for the Table 2001 rates.

This might, indeed, be sound advice if the split-dollar plan was established primarily to provide a death benefit for estate liquidity. While the insurers alternate term rates can help minimize the donor-employees gift to an irrevocable life insurance trust, there is no guarantee that such rates will be permitted indefinitely after final regulations are published.

What about existing plans in publicly traded companies? Unless there is clarification on whether or not an employee-owned (loan regime) split-dollar plan on an executive officer or director constitutes a “loan” under the Sarbanes-Oxley Act, maintaining the status quo in these plans is not a viable option. Clearly, rescue alternatives in this market could include exchange or plan restructure into a variety of options, such as executive bonus or undivided interest programs that are not considered split-dollar arrangements by the proposed regulations.

Yet another strategy may be appropriate for split-dollar plans intended as vehicles for cash value accumulation. Generally, the goal of these plans is to transfer all policy values onto the employees side of the ledger by his or her retirement age. Because this strategy requires the employee to more aggressively participate in the plans funding, conservation of the insurers “low ball” term rates is not of paramount importance.

Also, since some form of future rollout is required in order for the employee to access policy values, compliance with the new tax rules is essential to avoid a large taxable gain. In many of these instances, a 1035 exchange into a well-administered and compliant product may offer an attractive alternative.

The changing complexion of split dollar will create problems for some and opportunities for others. Skillfully leading clients with troubled plans through the maze and out into a structurally sound, legally compliant and fully administered solution will produce a satisfying outcome for client and producer alike.

Randall Macon, CLU, ChFC, is assistant vice president of Jefferson Pilot Financials LifeComp(R) Division, Greensboro, N.C. He can be reached at randy.macon@jpfinancial.com.


Reproduced from National Underwriter Edition, May 5, 2003. Copyright 2003 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.