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Section 162 Executive Bonus Planning
An Executive, or Section 162, Bonus Plan is a type of incentive plan where the business provides an executive with funds that are used to purchase a life insurance policy owned by the employee. Your business pays the life insurance premium directly or indirectly through a salary bonus. You can choose which employees receive this incentive, but the employee has full access to the policy’s cash value and he/she chooses the beneficiary. The Section 162 Executive Bonus Plan is easy to implement. The employee purchases and owns the life insurance policy or Annuity on his or her own life. The employer pays the premiums to the insurance company. The premiums are fully deductible to the employer as compensation to the employee under IRC Section 162. The Section 162 Executive Bonus Plan premiums are taxable income to the employee, and the employee owns the life insurance policy including policy values. As the policy values grow, the employee benefits.
Some employers even choose to pay not only the Section 162 Executive Bonus Plan premium amount, but also the employees’ tax on the premium amount for the . This second “bonus” pays the employee’s Federal income tax on the first premium “bonus” and creates a “double bonus plan.” The employer should always consider a formal resolution or document the corporate minutes to show that premium payments for the Section 162 Executive Bonus Plan are intended as compensation. The employer and employee may also enter into a modification of ownership rights agreement. Even though the employee is the owner of the life insurance policy or Annuity, a modification of ownership rights agreement may limit the control that the employee has over the use of the policy values. The employer may require that the employee is unable to access policy values for loans or withdrawals without written consent of the employer.
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Sec 162 Executive Bonus Plans are recommended when:
• A key employee or an executive has a need for life insurance.
• You are looking for additional tax deductions.
• You need to provide key employees with a section 162 benefit in addition to a qualified retirement plan. The bonus amount you pay is fully tax deductible to the company, provided this is considered reasonable compensation, and taxed as ordinary income to the employee. You have the option to work out an arrangement with the employee, such as offering a loan, to help cover the income tax liability.
Section 162 Plan or Executive Bonus Plans are an agreement between the employer and key employees to provide the with supplemental income and death benefits. The Section 162 (IRS Code) plan can be funded with a cash value life insurance policy purchased by the company for their executives and key employees.
The employee would need to apply for (and would also own) the life insurance policy and the employee has the right to assign the life insurance policies beneficiary of the policy. The company would then pay the "section 162 bonus" premium to the life insurance company (not the employee). The employee's right to receive the cash value of the policy through loans, withdrawals or surrender is subject to a vesting schedule agreed upon by the employee and the company. If the employee terminates their employment prior to the plan becoming fully vested, the company is repaid some or all of its "sec 162 bonus" premiums from the policy's cash value.
For company key employees:
- Permanent life insurance protection with very low out-of-pocket costs
- Income-tax free benefits paid to family at death
Supplemental Income
- Additional income at disability, retirement or termination of employment
Income Tax Benefits
- Tax-deferred growth of life insurance policy's cash values
- Possibility for tax-free retirement income with life insurance policy loans and withdrawals
- Income-tax free death benefits
- The employee must report the life insurance premiums paid each year as taxable compensation, impact of this can be minimized by the employer providing a cash bonus to the employee to cover
 both the life insurance premiums and income taxes due
Program Portability
- Unrestricted ownership of policy and cash value when fully vested
For the company:
- No IRS approval or restrictions
- No US government forms or reports to fill out
- No tedious administration tasks
Program Cost-Effectiveness
- "Bonus" premiums would be tax-deductible
- Minimal company administration costs and problems
Selectivity
- No mandatory eligibility and participation rules
- Company would select which key employees that would be able to participate
Flexiblity
- No required plan provisions
- Custom-tailored to each company participant
"Golden Handcuff" Type Incentives
- Recruit, reward and retain your key employeesion 162)
OVERVIEW
Under Section 162 executive bonus arrangement, an employer provides an executive or key employee with a life insurance policy or annuity. The employer in pays the premiums on the policy by providing an equivalent amount designated as a bonus to the employee. The life insurance policy is owned by the employee who controls the cash values and the beneficiary designations. The employer can request an endorsement to the policy restricting employee actions (i.e., access to cash values/loans, changes in ownership, etc.) without employer consent. The employee is then taxed on the value of the premiums as wages or salary. The employer can fully deduct the cost of the life insurance or annuity premiums as an ordinary business expense. These types of section 162 arrangements offer no special tax advantages, as the bonus amounts are currently taxable, but they are unlimited, subject to possible restrictions based on reasonable compensation, although that is not usually a major problem except in the case of owner/employees.
Funding Funded by the employer
Eligibility No eligibility requirements. Life insurance underwriting requirements will generally apply
Elections, Contributions and Limits
Executive Bonus amounts can vary from year to year based on the cost of the insurance premiums. No limits on the amount payable under the policy.
Vesting Not applicable
Taxation Immediately Federally taxable as wages/salary for the year of receipt
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