Most life insurance policies are owned, managed, and paid for by one person. Still, there are situations where two parties could benefit from the coverage. For example, if a high-level executive passes away, both their family and employer might face financial loss. In such cases, the two parties might consider sharing a sizable policy through split-dollar life insurance.
This strategy has evolved into a valuable tool for employers, executives, and high-net-worth individuals looking to manage costs, reward performance, or address future estate taxes.
Split-Dollar Life Insurance Defined
Split-dollar life insurance is an agreement between two or more parties to share the costs and benefits of a life insurance policy.1 The agreement is a legal contract that outlines who pays premiums, who owns the policy, and how the death benefit is divided.
At its core, a split-dollar arrangement allows multiple parties - often a company and an employee - to divide ownership rights to the policy’s cash value and death benefit. This type of plan is common between corporations and key executives as part of a broader employee benefit plan or executive compensation package.
How Do Split-Dollar Agreements Work?
A split-dollar life insurance plan starts with two parties - often an employer and employee - deciding how to divide a policy. The agreement covers:
- What type of life insurance policy will be used
- Who pays the premium payments
- Who owns the policy
- Who can access the cash value
- How the death benefit is distributed
- What happens if the insured retires, resigns, or is terminated
Typically, these plans use permanent life insurance policies with a growing potential cash value component, such as whole life or universal life. Once the insured qualifies, the parties sign the agreement and fund the policy according to its terms.
If the insured dies, the employer collects its agreed share - often up to the amount paid in premiums or the policy’s cash value and the remainder goes to the employee’s beneficiaries.
Who Owns the Policy?
| Agreement Type | Policy Owner | Typical Use Case |
|---|---|---|
| Endorsement | Employer | Executive retention and compensation |
| Collateral Assignment | Employee | Executive benefit with shared funding |
| Private | ILIT (Trust) | Estate planning and tax reduction |
Who Names the Beneficiary?
In split-dollar life insurance plans, the employee typically names the beneficiary. However, the split-dollar arrangement specifies that part of the death benefit must first repay the employer’s contribution.
For private split-dollar agreements, the trust - once created - is usually irrevocable, so beneficiaries cannot be changed later.
Types of Split-Dollar Arrangements
Endorsement Split-Dollar Agreement
In this version, the employer owns the policy and “endorses” a portion of the death benefit to the employee’s beneficiaries.
- The employer retains ownership and control of the policy.
- The employee’s family receives their share upon death.
- The agreement defines what happens when the employee retires or leaves.
This structure is commonly used for executive compensation and supplemental retirement income.
Collateral Assignment (Loan Regime)
The employee owns the policy, but the employer pays the premiums.2 The payments are treated as loans under the IRS’s loan regime, meaning:
- The employee owes the employer interest, typically at the market rate set by the Internal Revenue Service (IRS).3
- The employee may repay or have the loan forgiven upon retirement.
- The death benefit serves as collateral - if the insured dies, the employer’s loan is repaid before any payout to beneficiaries.
Publicly traded companies usually avoid this structure due to lending restrictions.
Private Split-Dollar Agreement
A private split-dollar plan is used outside of employment, often for estate planning. A policy is purchased through an irrevocable life insurance trust (ILIT) to help reduce estate taxes.
This arrangement keeps the death benefit outside the taxable estate while sometimes allowing the insured to recoup employee money paid in premiums or cash value if structured carefully.
Pros & Cons of Split-Dollar Life Insurance
| Pros | Cons |
|---|---|
| Provides additional compensation and retention tools for key employees | Complex to structure and manage |
| Cash value grows tax-deferred | Fewer tax benefits post-2003 IRS rulings |
| Flexible structure (endorsement, collateral assignment, private) | Requires coordination between tax, legal, and HR professionals |
| Helps minimize estate taxes with ILITs | Premiums can be costly |
| Enhances employee benefit plan offerings | Misunderstandings may lead to disputes between employer and employee |
Tax Implications & Reporting
The tax obligations of split-dollar life insurance depend on the structure.
Endorsement Agreement
The employee is taxed annually on the economic benefit received - the value of the current life insurance protection - minus any contributions made by the employee. This value is often calculated using government tables or the insurer's alternative term rates.
The employer's premium payments are not deductible as a business expense, and the policy's value is generally a balance sheet asset for the company.
Collateral Assignment Agreement
The employee doesn’t pay taxes on premiums but must pay interest on the employer’s “loan.” If the loan is forgiven, that amount is treated as taxable income. Under both regimes, cash value grows tax-deferred, and the death benefit is typically income-tax-free for beneficiaries.
Private Split-Dollar Agreement
Using an ILIT can remove the death benefit from the taxable estate, potentially saving millions in estate taxes for high-net-worth individuals.
Real-World Examples
Example 1: Retention Bonus
Camila owns an advertising firm and wants to retain her top salesperson, Elijah. She offers him a $2 million whole life policy using an endorsement split-dollar plan.
- Camila pays the premiums for 10 years.
- If Elijah passes away, Camila is repaid for her contributions, and Elijah’s family receives the rest.
- After 10 years, Elijah gains ownership and can use the cash value for supplemental retirement income.
Example 2: Estate Tax Reduction
Ronald has a $10 million estate and worries about estate taxes. He purchases life insurance through an irrevocable life insurance trust using a private split-dollar agreement.
- The trust owns the policy.
- Ronald retains access to the amount he paid in premiums.
- His heirs receive the full death benefit, free from estate tax.
Split-Dollar Life Insurance & FASB
For employers offering these arrangements, the Financial Accounting Standards Board (FASB) requires clear reporting of the company’s interest in the policy as an asset and the employee’s vested benefit as a liability. The vesting period specifies the length of time an employee must remain with the company to fully earn their benefits, and must be clearly disclosed.
The board of directors and finance teams often review these plans closely due to the long-term accounting implications.
Who Should Consider Split-Dollar Life Insurance?
Split-dollar life insurance may be a strong fit for:
- Business owners wanting to reward or retain top executives
- Corporations seeking flexible executive compensation options
- High-net-worth individuals looking to reduce future estate taxes through trust-owned policies
However, because the structure and tax obligations can be intricate, anyone considering it should consult a tax advisor, insurance agent, and possibly an estate planning attorney before proceeding.
Is Split-Dollar Life Insurance Right for You?
Split-dollar life insurance can be a powerful financial strategy, but it’s not for everyone. It’s best suited for employers looking to retain executives or individuals engaged in complex estate planning. Consult with a financial representative or insurance agent to see if a split-dollar plan matches your financial goals.
Take advantage of the potential tax and estate planning benefits of Split-Dollar Life Insurance. Request a Life Insurance Quote
Sources
- Using life insurance in a split dollar plan. https://www.guardianlife.com/life-insurance/split-dollar.
- Split Dollar Life Insurance Guide. https://www.irs.gov/pub/irs-pdf/p5962.pdf.
- Revenue Rulings. https://www.irs.gov/retirement-plans/revenue-rulings.
