270 / Are life insurance premiums paid by a corporate employer taxable income to an insured employee if proceeds are payable to the employee’s estate or personal beneficiary and the policy is owned by the corporation?

Any arrangement between a life insurance contract “owner” and a “non-owner” is treated as a split-dollar life insurance arrangement – even if it does not strictly meet the statutory definition of a “split-dollar life insurance arrangement” – if it is a compensatory arrangement. Final regulations on split dollar state that such arrangements should be classified as economic split-dollar.¹

An arrangement is a compensatory arrangement if:²

(1)     It is entered into in connection with the performance of services;³

(2)     The employer or service recipient pays, directly or indirectly, all or any portion of the premiums; and⁴

(3)     Either⁵

(a)  the beneficiary of all or any portion of the death benefit is designated by the employee or service provider, or is any person whom the employee or service provider would reasonably be expected to designate as the beneficiary,: or

(b)  the employee or service provider has any interest in the policy cash value of the insurance contract.⁶

In one case, where an employee’s beneficiary was named irrevocably, the full premiums were taxed to the employee even though the corporation owned the policy.⁷

Where a corporation owned a policy designating an insured employee’s family as beneficiary and could change the beneficiary, premium payments were not income to the employee.⁸ The Tax Court suggested that the P.S. 58 costs might be taxable to the employee each year the employee’s family is beneficiary. After 2001, P.S. 58 rates generally may not be used, but Table 2001 may be used ( Q 4022).

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Planning Point: To avoid confusion on the tax results when premiums are paid by a business but the policy beneficiary is someone other than the business, it is important to properly document the transaction. If the transaction is intended to be a loan it is important to have signed loan documents and to either pay or account for the accrued interest on an ongoing basis. If the arrangement is economic benefit split dollar, then a split dollar agreement should be executed and payment of economic benefit costs should be made annually.

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