1. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 1  What is it?  Life insurance is purchased and owned by the qualified pension or profit sharing plan and uses employer contributions to the plan as a source of funds  When is the use of this technique indicated?  When a substantial number of employees under the plan have unmet insurance needs  When there are gaps or limitation in other company plans that provide death benefits  Group term plans  Split Dollar plans  Nonqualified deferred compensation plans  When a qualified plan for a closely held business or professional corporation is overfunded or close to the full funding limitation.

2. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 2  When is the use of this technique indicated? (cont'd)  When life insurance would be attractive to plan participants as an additional option for investing their plan accounts  When an employer wants an extremely secure funding vehicle for a plan with guarantees as to future costs and plan benefits  Plan proceeds can provide financial security for the participant’s survivors  Advantages  Premiums are deductible by the employer

3. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 3  Advantages (cont'd)  Life insurance inside a qualified plan  Lower premiums and higher dividends  “Locking in” present mortality standards  Life insurance with a built-in conversion into an annuity  No sales fees or other costs to purchase annuities  Pure insurance portion of the qualified plan death benefit not subject to income tax  A fully insured plan (412(i)) is not subject to the minimum funding requirements  Low cost installation and administration

4. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 4  Advantages (cont'd)  May be less expensive than group term insurance to the employee  May be less expensive than group term insurance to the employer  Greater amounts of life insurance for owner-employees than with group term  Substandard risks can obtain coverage that might otherwise not be available  Additional insurance premium ratings may be deductible to the employer  Substandard rating costs are not taxed to the employee  Death benefit risk transferred from the plan to the insurer

5. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 5  Advantages (cont'd)  Defined contribution plans  Employee can purchase insurance on the lives of certain relatives or even unrelated persons in whom they have an insurable interest  Funding a buy-sell agreement  Defined benefit plans  Life insurance may create a larger deduction, even in plans that are “maxed out”  Qualified plan can “incubate” a policy  High up front costs can be supported by the pension plan at the cost of reporting the economic benefit of the term insurance  Employee can obtain an individual life insurance contract at original issue age rates at retirement or termination of employment

6. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 6  Disadvantages  Insurance rate of return on cash values may be lower than alternative investments  Policy commissions and expenses may be higher than alterative investments  Income taxes are levied upon the death proceeds in an amount equal to the cash value portion of the policy immediately before the insured’s death  Exclusion of life insurance in a qualified plan from an insured’s estate is uncertain  What are the tax implications?  Employer contributions are deductible  The amount of life insurance purchased must fall within “incidental limits”

7. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 7  What are the tax implications? (cont'd)  Employer contributions are deductible (cont'd)  The “incidental” test  Cost of non-retirement benefit must be less than 25% of the total cost of the plan  Life insurance is considered “incidental" if  “100 to 1” test – the participant’s insured death benefit is not more than 100 times the expected monthly normal retirement benefit or  “Less than...” test – the aggregate premium paid over the life of the plan for any insured death benefit must at all times be less than  Ordinary life 50%  Term insurance25%  Universal life25%  Variable life50%

8. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 8  What are the tax implications? (cont'd)  Employees can supplement the employer contributions with their own after-tax contributions  Coverage on key employees not subject to the incidental test to the extent that the proceeds are payable to the profit sharing plan and shared with all plan participants  The economic value of pure life insurance is taxed annually to the participant at the lower of  IRS Table 2001 or  The life insurance company’s actual rates for individual one-year term policies available to all standard risks

9. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 9  What are the tax implications? (cont'd)  Income taxation of an insured death benefit received by the beneficiary  Pure insurance element is income tax free to the participant’s beneficiary  The total of all Table 2001 costs paid by the participant can be recovered tax free from the death benefit  The sum of all nondeductible contributions toward the plan made by the employee is tax free to the participant’s beneficiary  Loans made by the plan and taxed to the employee are recovered tax free by the beneficiary  Any employer contributions that were, for some reason, taxed to the employee are tax free to the beneficiary

10. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 10  What are the tax implications? (cont'd)  Income taxation of an insured death benefit received by the beneficiary (cont'd)  The remainder of the distribution is taxed as a qualified plan distribution  The value of a life insurance contract sold or otherwise distributed from a plan is the contract’s cash value, without reduction for surrender charges provided that amount is at least as large as:  Premiums paid from date of issue through date of determination plus  Any amount credited with respect to those premiums (e.g. dividends and interest) or  With respect to variable life insurance  Adjustments made to premiums paid that reflect current market value and the current market value of segregated asset accounts  Minus reasonable mortality charges and other charges from date of issue to the date of distribution

11. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 11  What are the tax implications? (cont'd)  Qualified plan death benefits are, in general, included in the decedent’s estate for federal estate tax purposes.

12. Life Insurance In Qualified Plans Chapter 32 Tools & Techniques of Life Insurance Planning 32 - 12