Business Life Insurance Strategies Guide

Transcription

1 Business Life Insurance Strategies Guide Nationwide Business Solutions Group

2 In this guide, Nationwide assumes that universal or variable universal life insurance is used for each of the strategies, unless another type of investment is indicated. As situations change, so will the business s life insurance needs. Care should be taken to ensure these strategies and products are suitable for the business s and the client s longterm goals. Weigh the business s objectives, time horizon and risk tolerance as well as any associated costs before investing. Also, be aware that market volatility can lead to the possibility of the need for additional premium in the policy. Variable life insurance has fees and charges associated with it, which include costs of insurance, underlying fund expenses and administration fees. Investing involves risk, including possible loss of principal. The following information was created to support the general promotion of life insurance, annuities, and/or other products and services from Nationwide Life Insurance Company, which are described within. Keep in mind that different plan designs may have various tax implications. Federal income tax laws are complex and subject to change. Nationwide and its representatives do not give legal or tax advice. Please consult an attorney or tax advisor for answers to specific questions. This information is not intended to be used and cannot be used to avoid penalties under the Internal Revenue Code. Variable products are sold by prospectus. Both the product prospectus and underlying fund prospectuses can be obtained from your investment professional or by writing to Nationwide Life Insurance Company, P.O. Box , Columbus, OH Before investing, carefully consider the fund s investment objectives, risks, charges and expenses. The product prospectus and underlying fund prospectuses contain this and other important information. Read the prospectuses carefully before investing.

3 Tools to recruit and reward top talent Today s businesses need to compete aggressively to attract and keep the key employees who are integral to their success. One solution to consider is to offer top performers a specialized plan that could help meet their unique needs and reward them for the contributions they make. We designed this guide to help you evaluate the options and select the right business life insurance strategy. Protection Split dollar Executive bonus Restricted executive bonus Insurance-based retirement plan Business Continuity Buy/Sell Key person Retirement Nonqualified deferred compensation Supplemental executive retirement plan Executive bonus Restricted executive bonus Insurance-based retirement plan 1

4 Overview of business life insurance strategies TYPE OF PLAN Nonqualified Deferred Compensation Plan With this type of plan, the employer gives a group of key employees the ability to defer salary and bonus compensation on a pretax basis. Corporate-owned life insurance (COLI) Alternate funding arrangements: Unfinanced Mutual funds Annuities PLAN FEATURES AND IMPACTS The employer purchases a life insurance policy on a select employee or a group of employees in order to informally fund the nonqualified deferred compensation agreement The employer utilizes the salary deferral to pay premium on a corporate-owned life insurance policy in which the business maintains full rights to the policy the business is the owner and the beneficiary on the policy, controls the cash value in the policy, and for variable life, reallocates investments in the policy The employee chooses from a menu of investment options that may range from conservative to aggressive; any gains in the account will grow tax deferred until the employee receives the account balance, when he or she will owe ordinary income taxes on amounts received The employee is immediately 100% vested in his or her contributions and earnings The employer may make additional contributions to the employee s account either as a match or by using another company formula; however, the employer is not obligated to contribute Additionally, the employer may make company contributions subject to a vesting schedule to add a golden handcuffs element to the plan Life insurance policies purchased by the employer for the purpose of informally funding the plan are general assets of the employer and are subject to the claims of creditors of the employer Supplemental Executive Retirement Plan (SERP) A supplemental executive retirement plan, or SERP, is a benefit that provides retirement income for a group of key employees. COLI The employer has the flexibility to choose either a fixed-dollar benefit amount or a formulabased benefit amount, based on participant compensation and/or years of service The plan can be designed to provide reduced benefits if the employee separates from service before retirement age In addition to providing defined benefits, the plan can be designed as a defined contribution plan where the employer makes annual contributions on behalf of employees Life insurance policies purchased by the employer for the purpose of informally funding the plan are general assets of the employer and are subject to the claims of creditors of the employer Alternate funding arrangements: Unfinanced Mutual funds Annuities 2

5 Employer impacts It s a tool for recruiting and retaining key employees The employer selects who participates There s simple online enrollment and ongoing administration The company can recover its costs through the life insurance death benefit The death benefit can also be used to replace any lost profits the business experiences as a result of the key employee s premature death This plan does not have an impact on existing qualified retirement plans Taxes on income are deferred until the employee receives distributions There are no required minimum distributions at age 70½ Employees may take distributions before age 59½ without penalty There are no contribution limits Who is a nonqualified deferred compensation plan candidate? Want to reward and retain key employees Are looking for supplemental employee benefit alternatives Don t need an immediate tax deduction on compensation expenses Would like a golden handcuffs measure Do not have a qualified plan but would like to offer a discriminatory plan Do have a qualified plan but would like to offer a discriminatory plan For profit entities such as: tax-paying organizations such as C Corporations tax-pass-through organizations such as S Corporations, LLCs and partnerships Employees who: Have maxed out their qualified plan Can t contribute as much as they d like to because of qualified plan testing Consistently receive corrective distributions and are looking for retirement planning alternatives Don t need additional assurance, other than the stability of the employer, about the security of their plan Employer impacts A tool for recruiting and retaining key employees The employer selects who participates The company can recover out-of-pocket costs through the life insurance death benefit The benefit can be predictable for retirement purposes and accounting impact Taxes on income are deferred until the employee receives distributions There are no required minimum distributions at age 70½ Employees may take distributions before age 59½ without penalty Plan has an easy-to-understand formuladriven benefit Who is a supplemental executive retirement plan candidate? Want to reward and retain key employees Are looking for supplemental employee benefit alternatives Don t need an immediate tax deduction on compensation expenses Would like a golden handcuffs measure Want to provide supplemental income to key employees For profit entities such as: tax-paying organizations such as C Corporations tax-pass-through organizations such as S Corporations, LLCs and partnerships Employees who: Have maxed out their qualified plan Can t contribute as much as they d like to because of qualified plan testing Are looking for retirement planning alternatives Don t need additional assurance, other than the stability of the employer, about the security of their plan 3

6 Overview of business life insurance strategies TYPE OF PLAN PLAN FEATURES AND IMPACTS Executive Bonus Plan Under this plan, an employer can purchase and pay for a life insurance policy for a select employee or group of employees. Corporate-sponsored individually owned (CSIO) Alternate funding arrangements: Unfinanced Mutual funds Annuities The employee has full rights to the policy, names the beneficiary and controls the cash value and all other rights associated with the contract The amount of the premium paid by the employer is taxable income for the employee; the employer can provide the employee with a double bonus to cover the additional tax The employer receives an immediate tax deduction for the policy premium and any double bonus paid The employee can take tax-free income from the policy in the future, via partial withdrawals and loans, and the beneficiary will receive an income tax-free death benefit in the event of the employee s death If a life insurance policy lapses with loans outstanding, the loan amount will immediately become subject to federal income tax, and if the insured is under age 59½, may also be subject to an additional 10% tax penalty If the employee chooses to take distributions, the cash value available and the death benefit payable to beneficiaries will be reduced Restricted Executive Bonus Arrangement (REBA) A restricted executive bonus arrangement, or REBA, is simply the executive bonus plan previously described, plus a few elements that increase the plan s retaining power. CSIO Alternate funding arrangements: Unfinanced Mutual funds Annuities Split-dollar Plan Under this type of plan, an employer can purchase and pay for life insurance for select employees. The plans may be structured so employees make some of the premium payments and the employer s investment can be reimbursed when the employee resigns, retires or passes away. The employee has full rights to the policy, names the beneficiary and controls the cash value and all other rights associated with the contract The amount of the premium paid by the employer is taxable income for the employee; the employer can provide the employee with a double bonus to pay the tax The employer receives an immediate tax deduction for the policy premium and any double bonus paid The employee can take tax-free income from the policy in the future, via partial withdrawals and loans, and the beneficiary will receive an income tax-free death benefit in the event of the employee s death If a life insurance policy lapses with loans outstanding, the loan amount will immediately become subject to federal income tax, and if the insured is under age 59½, may also be subject to an additional 10% tax penalty If the employee chooses to take distributions, the death benefit payable to beneficiaries will be reduced A restrictive endorsement on the life insurance policy lets the employee change the beneficiary or reallocate the investments in the policy, but anything else (like withdrawing or borrowing from the policy) would require the employer s consent A vesting and repayment schedule would require repayment of some or all of the bonuses if the employee leaves before the end of the schedule The employer is not required to contribute to the policy There are two types of split-dollar plans: Collateral assignment/loan regime: the employee owns the policy, and the employer lends him or her the premium required to pay for it; the employee is taxed on the interest-free element of the loan; the loan may be paid back by the employee or forgiven by the employer; if it is forgiven, there will be tax implications for the employee, and the employer will receive a tax deduction Endorsement/economic benefit regime: the employer owns the policy and allows the employee to name the policy beneficiary; the economic benefit is in the value of the life insurance coverage; at the end of the arrangement, the policy may be transferred to, or purchased by, the employee COLI/CSIO 4

7 Employer impacts It s a tool for rewarding key employees in a discretionary manner It s easy to implement and requires minimal ongoing administration Premiums are immediately tax deductible The employer is not obligated to make premium payments The employee owns the life insurance policy, controls the cash value and names the beneficiary (subject to restrictions) The plan can be structured with no out-of-pocket costs Tax-free income is available via partial withdrawals and loans Cash values and policy values accumulate tax deferred The employee chooses when and in what amounts to make withdrawals, subject to the vesting schedule Tax due on the bonus can be covered by an additional bonus from the company The contribution limits are flexible Who is a Section 162 Bonus candidate? Would like to reward key employees Want an immediate tax deduction on compensation expenses Are tax-paying organizations such as C Corporations Are tax-pass-through organizations such as LLCs, S Corporations, sole proprietorships and partnerships (nonowners) Employees who: Are looking for benefits that are not subject to the claims of creditors of the employer (keep in mind that life insurance death benefits are subject to the claims-paying ability of the issuing insurance company) Employer impacts It s a tool for rewarding key employees in a discretionary manner There s minimal ongoing administration Premiums are immediately tax deductible Golden handcuffs are created through a restricted endorsement and vesting schedule A vesting schedule allows the employer to recover some or all of the costs of the additional compensation if the schedule is not fulfilled The employer is not required to contribute to the policy The employee owns the life insurance policy, controls the cash value and names the beneficiary (subject to restrictions) It can be structured with no out-ofpocket costs The cash value can be used for tax-free supplemental retirement income For estate planning purposes, the policy can be owned by a trust Cash values and policy values accumulate tax deferred The employee chooses when and in what amount to make withdrawals, subject to the vesting schedule Tax due on the bonus can be covered by an additional bonus from the company The contribution limits are flexible Who is a restricted executive bonus arrangement candidate? Would like to reward key employees Want an immediate tax deduction on compensation expenses Are tax-paying organizations such as C Corporations Are tax-pass-through organizations such as LLCs, S Corporations, sole proprietorships and partnerships (nonowners) Employees who: Are looking for benefits that are not subject to the claims of creditors of the employer Employer impacts It s a recruiting and retention tool for valued employees There is less administration and fewer funding requirements than qualified plans Unlike qualified plans, the employer selects who receives benefits, when they receive them and how much they receive The limits and rules associated with qualified plans do not apply There are low start-up and administrative expenses The business can recoup its investment when a valued employee resigns, retires or passes away The plan design can be personalized to meet specific needs The plan can be terminated at any time The business may make the premium payments for the employee s personal life insurance protection The plan design can be personalized to meet individual needs Tax due on the bonus can be covered by an additional bonus from the company Tax-free income is available via partial withdrawals and loans Cash values grow tax deferred The employee s beneficiaries may receive an income tax-free death benefit With proper planning, the policy can be excluded from the employee s taxable estate Who is a split-dollar plan candidate? Have a common employment affiliation Want to provide life insurance policy benefits to employees May want more control through policy ownership Employees who: Need life insurance coverage but aren t able to pay for it 5

8 Overview of business life insurance strategies TYPE OF PLAN PLAN FEATURES AND IMPACTS Insurance-based Retirement Plan An insurance-based retirement plan uses a life insurance policy to provide both life insurance protection and the opportunity to accumulate supplemental retirement income. CSIO The employee selects the amount of insurance (within qualifying limits) and optional features and riders to personalize the policy (available at an additional cost) The employee may choose how much premium is paid and how often, within certain limits Cash value within the life insurance policy grows tax deferred The employee chooses when and in what amount to make withdrawals The employee maintains full rights to the policy; he or she can name the beneficiary, control the cash value in the policy, and for variable life, reallocate investments in the policy The employee has the opportunity to take tax-free income from the policy at his or her discretion via partial loans and withdrawals; please note that if the policy lapses with outstanding loans, the loan amount may be subject to federal income tax and additional tax penalties Key Person Insurance A key person life insurance policy can help cover financial losses that may occur in the event of a key contributor s death. The business purchases life insurance on the key employee and pays the premiums In the event of the key employee s death, the business receives the policy s death benefit to help compensate for the loss of the key employee s services Life insurance policies purchased by the employer for the purpose of informally funding the plan are general assets of the employer and are subject to the claims of creditors of the employer COLI Buy/Sell Agreement A buy/sell agreement funded with life insurance can help to create an exit strategy and business succession plan in the event of an owner s death, disability or retirement. COLI Buy/sell agreements can take many forms; the two typical structures include: A cross-purchase plan: each owner purchases a life insurance policy on the other owner(s), and when an owner dies, the surviving owner(s) use the death benefit to purchase the deceased s share of the business An entity purchase or stock redemption plan: each owner enters into an agreement with the business for the sale of their respective interests to the business; the business purchases separate life insurance contracts on the lives of the owners, pays the premiums and is the owner and beneficiary; when an owner dies, his or her shares of company stock will pass to his or her heirs or estate, and the company may purchase them with proceeds from the life insurance policy Life insurance policies purchased by the employer for the purpose of informally funding the plan are general assets of the employer and are subject to the claims of creditors of the employer 6

9 Employer impacts There s no impact on existing qualified plans It can be structured as a group benefit without formal plan requirements There are no out-of-pocket expenses associated with offering this strategy Death benefit guarantees provide basic life insurance protection, and the income tax-free death benefit transfers wealth to beneficiaries There are no contribution limits Tax-free income is available via partial withdrawals and loans Who is an insurance-based retirement plan candidate? Would like to offer employees a benefit that can provide both pre- and postretirement income, as well as death benefit protection Employer impacts Employees, customers and creditors are assured of business continuity Life insurance coverage is a business asset that enhances creditworthiness for commercial borrowing The policy s cash value may be available through a withdrawal or loan Policy proceeds can be used to recruit and train a replacement; they can also help replace any profits the company may have earned if the employee had not passed away The key employee s value to the business is affirmed, strengthening the existing relationship and helping with retention Who is a key person insurance candidate? Are in a competitive industry with a limited talent pool and need assurance that they will have the additional funds to recruit talent upon the loss of a key employee Fellow owner/business impacts They can buy company shares they may not have been able to afford otherwise The agreement ensures that the deceased owner s share of the business will not pass to someone unsuitable Employees, customers and creditors are assured of business continuity The agreement promotes an equitable and orderly transfer of wealth Owner impacts It may offer estate tax advantages The deceased owner s heirs are guaranteed a buyer for an asset they may have no interest or experience in managing Beneficiaries receive income tax-free cash to pay estate debts, expenses and taxes Who is a buy/sell agreement candidate? An owner or partial owner of a business looking to efficiently transfer it upon retirement or death A family-owned or multiple-owner business with a focus on business continuation This information assumes that the life insurance is not a modified endowment contract, or MEC. As long as the contract meets the non-mec definitions of IRC Section 7702A, most distributions are taxed on a first-in/first-out basis. Surrender charges may apply to partial surrenders. Loans and partial surrenders from a MEC will generally be taxable, and if taken prior to age 59½, may be subject to a 10% tax penalty. Loans and partial surrenders will reduce the cash value and the death benefits payable to the named beneficiary(ies), and withdrawals above the available free amount will incur surrender charges. If your contract were to lapse with a loan outstanding, the loan amount in excess of basis will be treated as a distribution and all or a portion will be subject to income tax. All guarantees and protections are subject to the claims-paying ability of Nationwide Life Insurance Company, and do not apply to variable underlying investment options. 7

10 Which plan is right for your business? EMPLOYER IMPACT Objectives Nonqualified Deferred Compensation Supplemental Executive Retirement Plan Executive Bonus Plan Restricted Executive Bonus Arrangement Immediate Tax Deduction Plan Cost Recovery Protection from Corporate Creditors Death Benefit (available if life insurance is used to fund the plan) Death benefit protection for the participant Fixed or Variable Crediting Rate Golden Handcuffs Element 3 Elective Employee Deferrals 3 EMPLOYEE IMPACT Objectives Nonqualified Deferred Compensation Supplemental Executive Retirement Plan Executive Bonus Plan Restricted Executive Bonus Arrangement Pretax Salary Deferral 3 Tax-free Growth Tax-free Income (available via distributions from the life insurance policy s cash value) Income Tax-free Death Benefit Creditor Protection Elective Employee Deferrals 3 8 Consider the three plans with the most attractive features.

11 Split-dollar Plan Insurance-based Retirement Plan Key Person Insurance Buy/Sell Arrangement 3 3 (for cross purchase buy/sell agreements) 3 3 Split-dollar Plan Insurance-based Retirement Plan Key Person Insurance Buy/Sell Arrangement Choose the one that best fits your objectives. 9

12 Let s talk about your next steps Now that you ve compared these business life insurance strategies and outlined the features that are important for the plan you re considering, it s time to lay out your next steps and move forward. We can make that easier for you, so call us. Nationwide Business Solutions Group Keep in mind that different plan designs may have various tax implications. Federal income tax laws are complex and subject to change. Nationwide and its representatives do not give legal or tax advice. Please consult an attorney or tax advisor for answers to specific questions. Not a deposit Not FDIC or NCUSIF insured Not guaranteed by the institution Not insured by any federal government agency May lose value Life insurance is issued by Nationwide Life Insurance Company or Nationwide Life and Annuity Insurance Company, Columbus, Ohio. The general distributor is Nationwide Investment Services Corporation, member FINRA. In MI only: Nationwide Investment Svcs. Corporation. Nationwide, Nationwide Financial and the Nationwide framemark are service marks of Nationwide Mutual Insurance Company Nationwide Financial Services, Inc. All rights reserved. CLM-0543AO.2 (01/13)