Technical Bulletin for Employers Internal Revenue Code: Section 79 Tax Consequences of Group Term Life Insurance November 2005 Overview As an employer, you can provide up to $50,000 of group-term life insurance coverage tax-free to employees. The employee is taxed on the cost of the coverage in excess of $50,000. We want to make sure you are aware of the tax consequences for employees with group term life insurance coverage over $50,000. We have included several examples to help you work through the calculations. Look for the example that most closely matches your actual situation and ignore the rest. The cost of employer-provided group-term life (GTL) insurance amounts greater than $50,000 is taxable as imputed income to employees. Employer-provided GTL insurance includes any GTL policy: 1) that the employer pays for in-part or in-whole; or 2) for which the employees share of the premiums are deducted on a pre-tax basis; or 3) for which the employee pays for all of the premiums on an after-tax basis, and the premium rates straddle (some are less than and some greater than) the Table 1 rates. The enclosed table is used to calculate the amount of imputed income to be included in the employees taxable earnings for GTL insurance in excess of $50,000. As the employer, you should include the imputed income amount in the employees gross income (Form W-2, box 1) and withhold from other wages the appropriate FICA taxes on the imputed income amount prior to the end of the calendar year. We are happy to provide you with this summary of the tax liability of group term life insurance benefits in excess of $50,000. Please keep in mind that this material is to be used for informational purposes only. If you have specific questions or concerns on a particular factual situation, we recommend that you consult your tax advisor. For general questions concerning the taxation of group term life insurance, you are welcome to contact your Compliance Specialist at 425-454-6000. Calculating The Cost Of Group Term Life Insurance UNIFORM PREMIUM TABLE ( TABLE 1 ) Employee s Age 2 Monthly Cost (per $1,000 of benefit) Table I Rates Under 25 $.05 25-29.06 30-34.08 35-39.09 40-44.10 45-49.15 50-54.23 55-59.43 60-64.66 65-69 1.27 70 and older 2.06 2 See Note 2 on Page 5 Calculate the taxable cost for each month of an employee s coverage by multiplying the number of thousands of dollars of insurance coverage for the month, less 50, by the cost from the above table. Gallagher Reppond, 2005 1
Sample Calculations Choose the example that most closely resembles your actual situation. Also, please review the notes on page 5 prior to performing the actual calculations. Example 1: You provide group term life insurance and pay for 100% of the premium cost. Assumptions: You provide employees with a GTL benefit of two times base annual earnings (2 x BAE). Sarah is 37 years old and her salary is $42,000. GTL insurance $84,000 Amount of GTL subject to Table 1 34,000 Step 2: Determine the cost to include in Sarah s income as taxable wages. The Table 1 rate is $.09 per $1,000 34 (amount over 50k) x.09 (Table 1) x 12 (months) = $36.72 Step 3: Assess tax. Include the Table 1 cost (imputed income) of $36.72 in Sarah s gross earnings (Box 1 of Form W-2) and FICA taxes would be withheld from other wages on the $36.72. Example 2: You provide group term life insurance to employees and pay 100% of the cost. Under a separate policy, you also provide employee-pay-all voluntary GTL insurance to employees. Employees pay 100% of the cost of the voluntary GTL insurance on an after-tax basis. Step 1: For the employer provided GTL, calculate and assess tax on the Table 1 cost as in Example 1. Step 2: Determine whether you must calculate imputed income for the employee-pay-all voluntary GTL insurance. To do this, compare your group s premiums by age bracket to the Table 1 rates. If your premiums in every age bracket are all equal to, or all less than, or all greater than the Table 1 rates, there is no imputed income to calculate. You can stop here. Gallagher Reppond, 2005 2
If some of your premiums are less than and some are greater than the Table 1 rates, you will need to calculate imputed income for all those participants whose voluntary GTL premium rate is lower than the Table 1 rates by following Example 3. Skip to Example 3 now. * If you have voluntary GTL insurance through Benefits BUFFET SM, there is no imputed income liability because all the GTL rates are greater than the Table 1 rates (unless premiums are deducted pre-tax). Example 3: You provide group term life insurance to employees on which you pay a portion of the premium and the employees pay the remainder. The employee portion of the premium is paid on an after-tax basis. Assumptions: You provide employees with a GTL insurance benefit of two times base annual earnings (2 x BAE). You pay 50% of the cost and the employees are responsible for the remaining 50%. The GTL insurance premium is $.20 per $1,000 of coverage. Elizabeth is 47 years old and her salary is $65,000. $65,000 (BAE) x 2 = $130,000 Amount of GTL subject to Table 1 80,000 The Table 1 rate is $.15 per $1,000 80 (amount over 50k) x.15 (Table 1) x 12 (months) = $144.00 Step 3: Determine the employee premium cost for GTL insurance over $50,000. 80 (amount over 50k) x.20 (premium) x 12 (months) = 192.00 Times employee portion (percentage) of cost.50 Total amount employee paid out-of-pocket $96.00 Step 4: Calculate the amount of imputed income to include in employee s taxable earnings and assess FICA on that amount. Table 1 total from Step 2 144.00 Minus insurance premium paid from Step 3 96.00 Total amount subject to imputed income $48.00 In this example, $48.00 would be included in gross income (Box 1 of W-2) and FICA taxes would be withheld from other wages on the $48.00. If, however, the amount that the employee paid out-of-pocket on an after-tax basis for the GTL insurance is greater than the total Table 1 amount (i.e. a negative number in Step 4), then there is no imputed income to be added to the W-2 wages. Gallagher Reppond, 2005 3
Note: The calculation logic would be the same if, for example, the employer provided GTL insurance equal to 1 x BAE and employees could purchase additional GTL insurance that they paid for on an aftertax basis. Example 4: You provide group term life insurance for which you pay a portion of the premium and the employees pay the remainder. The employee portion of the premium is paid on a pre-tax basis. Assumptions: You provide employees with a GTL insurance benefit of two times base annual earnings (2 x BAE). You pay 75% of the cost and the employees are responsible for the remaining 25%. The GTL insurance premium is $.20 per $1,000 of coverage. Donna is 42 years old and her salary is $65,000. $65,000 (BAE) x 2 = $130,000 Amount of GTL subject to Table 1 80,000 The Table 1 rate is $.10 per $1,000 80 (amount over 50k) x.10 (Table 1) x 12 (months) = $96.00 Step 3: Calculate premium cost on the employee paid portion of GTL insurance. GTL insurance subject to Table 1 80,000 Times employer-paid portion.75 Employer-paid portion of GTL subject to Table 1 60,000 GTL insurance subject to Table 1 80,000 Minus Employer-paid portion of GTL subject to Table 1 (60,000) Employee-paid portion of GTL subject to Table 1 20,000 20 (EE paid portion GTL) x.20 (premium) x 12 (months) = $48.00 Step 4: Calculate the total amount of imputed income to include in the employee s gross income (Box 1 of W-2) and to assess FICA on. To do this, compare the Table 1 cost ($96.00) to the employee-paid portion of the premium cost ($48.00) and assess imputed income on the higher amount ($96.00 in this example). (You do not deduct the employee-paid portion of the premium ($48.00) from the Table 1 amount because the premium was paid on a pre-tax basis.) Gallagher Reppond, 2005 4
Example 5: You provide group term life insurance to employees and pay 100% for the first 1 x BAE. Employees may purchase additional coverage and pay their portion of the premium on a pre-tax basis. Assumptions: Emily chooses to purchase an additional 2 x BAE. She is 32 years old and earns $30,000. The GTL insurance premium is $.20 per $1,000 of coverage. GTL insurance (3 x 30k) $90,000 Amount of GTL subject to Table 1 40,000 The Table 1 rate is $.08 per $1,000. 40 (amount over 50k) x.08 (Table 1) x 12 (months) = $38.40 Step 3: Calculate the employee premium cost of GTL insurance. 40 (amount over $50k) x.20 (premium) x 12 (months) = $96.00 Step 4: Calculate the total amount of imputed income to include in employee s gross income (Box 1 of W-2) and assess FICA taxes. To do this, compare the Table 1 cost ($38.40) to the premium cost ($96.00) and assess imputed income on the higher amount ($96.00 in this example). Notes 1. The IRS has indicated that for premiums paid on a pre-tax basis for GTL insurance amounts over $50,000, employees are required to include the greater of the following two amounts in gross income: 1) the actual premium cost of coverage; or 2) the imputed income amount. In Examples 4 and 5 we have taken a conservative approach to the IRS regulations. We know that there are employers who only use the Table 1 rates and do not compare them to the actual premium paid. We recommend that if you are in this situation, you review your strategy with your tax advisor. 2. For purposes of Table 1, determine an employee s age as of the last day of the tax year (December 31). To determine the amount of premiums an employee paid, use the actual GTL insurance premium rates. Therefore, for an age rated plan you will need to use the appropriate rates for the number of months in each age category. 3. All the examples assume 12 months of employment. You will need to use the actual number months each employee participated in the GTL insurance benefit. 4. Premiums for dependent GTL insurance may not be run through a Section 125 plan. 5. Premiums for accidental death and dismemberment are not subject to Table 1. Gallagher Reppond, 2005 5