The following is a brief summary of the rules that apply to Employer Owned Life Insurance policies, such as policies purchased in key person, entity Buy-Sell, deferred compensation and endorsement split-dollar arrangements. This summary is not meant to be comprehensive or to cover every situation and should not be construed as tax or legal advice. As explained below, if the "Notice and Consent" are received and certain Specified Exceptions are met, the death benefit of a life insurance policy owned by and payable to an employer on the life of an employee will, generally, remain income tax-free.
IF THESE RULES ARE NOT SATISFIED, THE DEATH BENEFIT WILL GENERALLY BE TAXABLE.
SECTION I - "Notice and Consent"
The "Notice and Consent" requirements are satisfied if before the policy is issued or before there is a material increase or other material change to a grandfathered policy:
1. The employee is notified in writing that the employer intends to insure the employee's life,
2. The employee is notified in writing of the maximum face amount for which the employee could be insured at the time the policy was issued,
3. The employee provides written consent to being insured under the policy and that such coverage may continue after the insured terminates employment, and
4. The employee is informed in writing that the employer will be a beneficiary of any insurance proceeds payable on the death of the employee.
The policy must be issued before the earlier of (1) the expiration of the one-year period beginning on the date the consent was executed, or (2) termination of the employee's employment.
It is not necessary to provide further notice or renew an employee's consent with regard to an existing policy unless, for example, the total face amount of the employer owned life insurance policy with regard to the employee exceeds the amount of which the employee was notified and to which the employee consented.
An inadvertent failure to satisfy the notice and consent requirements can generally be remedied if the failure is discovered and corrected no later than the due date of the tax return for the taxable year that the policy was issued. However, failure to obtain such consent cannot be corrected after the insured employee has died.
SECTION II - Specified Exceptions
In general, if the notice and consent requirements are satisfied, policy death proceeds may be received income tax free (subject to existing Transfer for Value and Alternative Minimum Tax rules) if any of the following exceptions are met:
1. Recent Employees: The insured was an employee at any time during the 12-month period before death. (In other words, if the employee is no longer employed by the employer at the time of death, the death proceeds will keep their income tax-free status if death occurs within the 12 months following the date of the employee's employment termination.)
2. Directors and Highly Compensated Employees: If at the time of the policy was issued, the insured was:
a. a director,
b. a highly compensated employee under the rules for qualified retirement plans:
i. generally, owner of more than 5% of outstanding or voting stock of the employer (or more than 5% of capital or profits interest if employer is not a corporation) in the current or preceding year; or
ii. an employee receiving compensation as follows: for policies issued in _____, employee earned in excess of $________ in 20___; or
c. a highly compensated individual under the rules for self-insured medical reimbursement plans, (generally defined as one of the five highest paid officers, or among the highest paid 35% of all employees, or a more than 10% owner by value of employer stock).
3. Death Benefits Paid to Heirs:
a. to a family member of the insured,
b. to an individual who is the designated beneficiary of the insured (other than the employer),
Combined Employer and Employee Notice-Consent Acknowledgement
c. to a trust established for the benefit of any such family member or designated beneficiary, or
d. to the estate of the insured.
4. Buy-Sell Situations: To the extent that death proceeds are used to purchase an equity (or partnership capital or profits) interest in the employer from any party described in 3 (a) - (d) above.
To qualify for this exception, proceeds paid to heirs or used in Buy-Sell situations must be so paid or used by the due date, including extensions, of the tax return for the year when death benefits under the policy are received by the employer.
NOTICE TO INSURED BEFORE THE POLICY IS ISSUED: This is to notify you that:
1. The Policy Owner or its designee intends to insure your life under a life insurance policy issued by or one of its affiliated companies (the "Policy").
2. The maximum face amount for which you could be insured at the time the Policy is issued is $ .
Any underwritten increase will require additional consent.
3. The Policy Owner or its designee will be the beneficiary of any life insurance proceeds payable at your death under the Policy, subject to the terms, if any, of any separate legal agreement (e.g., a Buy-Sell or split-dollar agreement).
Signatures
CONSENT BY THE INSURED BEFORE THE POLICY IS ISSUED:
I consent to being insured under the Policy in accordance with information in the above Notice to me and that this coverage may continue after my employment terminates.
POLICY OWNER ACKNOWLEDGEMENT: The Undersigned Policy Owner hereby acknowledges that:
1. If we fail to adhere to these rules for Employer Owned life insurance, as described above, the death benefit will generally be subject to Federal income tax except to the extent of premiums paid. In addition to the notice and consent requirement, the insured must fit within one of the "Specified Exceptions" as described in Section II above. (The rules are found in IRC Section 101(j).)
2. We understand that we should consult with and rely on the advice of our own tax counsel.
3. Neither nor any affiliate of is in the position to guarantee tax results
IRS Circular 230 Notice: This information concerning tax issues is not intended to (and cannot) be used by anyone to avoid IRS penalties. It is intended to support the sale of insurance products by and its affiliated companies. Clients should seek tax advice based on their particular circumstances from an independent tax advisor.
Neither __________________ nor any affiliate of ______________________ is in the position to guarantee tax results