What is split dollar life insurance?


A split-dollar life insurance is an insurance product that is bought by both the employer and the employee, with each paying an agreed-upon percentage of the premiums. Hence, the name, "split dollar". In turn, both parties also agree to share the cash value (in some cases), as well as the death benefits.

There are also instances when the employer pays for most or all of the premiums, as long as it "owns" a portion of the death benefit. This means that the company stands to receive a portion of the death benefit upon the death of the employee. This kind of policy is sometimes used by employers as part of their employee benefits package.

There are tax implications with regards to split dollar life insurance, depending on who owns the policy.  These developments on how split dollar life insurance are treated by the IRS has an impact in that it may even result in financial loss for both parties, since the premiums are already taxable.

  • The employer as the policy owner. For this, the amount of the expected death benefit is counted as an economic benefit that the employer is giving to the employee. The employee is taxed yearly for this amount. Taxes are also levied for policy loans that the employee takes out against the policy's cash value.
  • The employee as the policy owner. For this, the share of the premiums that are paid by the employer are counted either as a loan or as compensation paid to the employee. These are taxed accordingly as well.

Before getting into a split-dollar agreement, it is best that you consult with an insurance professional so that you avoid tax law violations or other unnecessary losses.

You see, the employee may be forced to pay taxes on "phantom income", even after he has retired and even when he is not required to pay for the premiums since the policy's cash values are enough to handle this. This is particularly true if an employee is insured with a large insurance policy. There may be a need to have an "exit strategy" for the agreement on the split dollar life insurance scheme.

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