What is split-dollar life insurance?

Split-dollar life insurance is a contract between two or more parties to split the ownership and benefits of a permanent life insurance policy.

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By

Andrew HurstSenior Editor & Licensed Auto Insurance ExpertAndrew Hurst is a senior editor and a licensed auto insurance expert at Policygenius. His work has also been featured in The New York Times, The Wall Street Journal, Forbes, USA Today, NPR, Mic, Insurance Business Magazine, ValuePenguin, and Property Casualty 360.

Edited by

Antonio Ruiz-CamachoAntonio Ruiz-CamachoAssociate Content DirectorAntonio helps lead our life insurance and disability insurance editorial team at Policygenius. Previously, he was a senior director of content at Bankrate and CreditCards.com, as well as a principal writer covering personal finance at CNET.
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Reviewed by

Maria FilindrasMaria FilindrasFinancial AdvisorMaria Filindras is a financial advisor, a licensed Life & Health insurance agent in California, and a member of the Financial Review Council at Policygenius.

Updated|3 min read

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Most people only need a personal life insurance policy to protect their family financially if they die. But some people, particularly business owners and key employees, may also need a life insurance plan to protect against the financial impact their death would have on their business.

Some businesses fill this need with split-dollar life insurance, which is a formal agreement between two or more parties to share the ownership and benefits of a permanent life insurance policy and its cash value component.

Split-dollar policies are most often used by companies to decrease the financial impact of losing a key executive (like a CEO) or as a benefit in executive compensation packages.

Life insurance terms you should know
  • Beneficiaries: The people you name on your life insurance policy to receive the lump sum of money — also known as the death benefit — when you die.

  • Cash value: The portion of a permanent life insurance policy’s monetary value that grows tax-deferred over the life of the policy.

  • Death benefit: The amount of money the life insurance company will pay your beneficiaries when you die.

  • Face amount: The dollar amount, or death benefit, your beneficiaries receive if you die while your life insurance policy is active.

  • Insured: The person who is covered by the insurance policy.

  • Policy: The legal document that includes the terms and conditions of your life insurance contract.

  • Policyholder: The person who owns an insurance policy. Usually, this is the same person as the insured.

  • Permanent life insurance: A type of life insurance that lasts for the rest of your life and usually includes a cash value account.

  • Premium: The amount you pay your insurance company to keep your coverage active. Premiums are typically paid monthly or annually.

  • Riders: Add-ons to a life insurance policy that provide more robust coverage, sometimes for an extra cost.

  • Term life insurance: A life insurance policy that lasts for a set number of years before it expires. If you die before the term is up, your beneficiaries receive a death benefit.

  • Underwriting: The process where an insurance company evaluates the risk of insuring you and determines your final rate.

How split-dollar life insurance works

In business contexts, split-dollar life insurance is often a form of company-owned life insurance that benefits both you and your employer. The cost of the policy and the benefits of the cash value growth are shared between an employee and their employer.

Every split-dollar policy must involve two or more parties and share the costs and benefits. But agreements can differ in:

  • Who pays the premiums 

  • Who owns the policy

  • Who names the beneficiaries 

  • How the death benefit and cash value are split 

  • When and under what circumstances the agreement ends

All of these details should be laid out in the contract establishing the split-dollar life insurance agreement.

While split-dollar life insurance policies are usually implemented for business purposes, it’s possible to employ a split-dollar agreement for a personal life insurance policy, too.

However it’s only useful if you need to minimize your estate taxes. Most people won’t need to worry about this because federal estate taxes only apply to assets above $13.61 million. [1]  

Who is the owner of a split-dollar life insurance policy?

The ownership of split-dollar life insurance is determined by you and the other party involved in the agreement, though each ownership model comes with its own advantages and disadvantages. A policy can be owned by:

  • You: You can own a life insurance policy while another party makes part or all of the payments.

  • Your employer: Like key person insurance, your employer can own the policy and use their portion of the payout to recoup business expenses related to your passing.

  • A business partner: Small business partners may include a split-dollar contract in their buy-sell agreement, which dictates what happens if one owner exits the business.

  • A trust: Placing your life insurance policy in an irrevocable life insurance trust means it won’t be counted in the value of your estate.

  • A family member: Assigning ownership of a permanent policy to a loved one is another method of minimizing future estate taxes.

There are two types of ownership agreements between businesses and employees:

  1. Economic benefit & endorsement agreement

  2. Collateral assignment & loan regime

Economic benefit & endorsement agreement

If your employer owns and pays premiums for the life insurance policy in a split-dollar agreement, but you and your beneficiaries get some of the benefits, those benefits are assigned to you using an endorsement agreement. 

How it’s taxed: The term economic benefit refers to the way the IRS taxes the policy. The policy is taxed as employee pay, and calculated annually based on the benefits in your policy and the premiums paid by your employer.

Collateral assignment & loan regime

If you own the life insurance policy in the split-dollar agreement but your employer pays the premiums and gets some of the policy benefits, you assign those benefits to your employer with a collateral assignment agreement. 

How it’s taxed: The IRS treats the premiums paid by your employer as an annual, interest-free loan to you (a loan regime). Their share of the policy benefits repayment for the loan. You pay tax on the interest that would have been charged if this were a traditional loan (known as the applicable federal rate or AFR). 

Loan regime agreements are more complex to set up, but have greater tax benefits because you’re not taxed on the value of your policy benefits.

In either type of agreement, how and when your split-dollar plan ends is laid out in the contract.

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Pros & cons of split-dollar life insurance

Because tax regulations for the benefit became stricter in 2003, [2] split-dollar contracts are not as common anymore. However, this type of policy still has some uses in small business and estate plans.

Here are some of the pros and cons of split-dollar life insurance.

Pros:

  • Employer subsidizes the premiums for a generally costly permanent policy

  • Helps attract top talent as an employee benefit

  • Can shield your permanent policy from estate taxes

  • Cash value may provide additional retirement savings

Cons:

  • If you leave your job, your employer must give up your policy or you’ll have to pay the premiums yourself. 

  • Cash value accounts generally have a low rate of return when compared to traditional investments.

  • It can making filing taxes complicated for the individual or the employer.

  • Permanent policies are more expensive than term life insurance and usually unnecessary.

Learn more about the differences between term and permanent life insurance

How does split-dollar life insurance work for estate planning?

Also known as private split-dollar life insurance, these are agreements between individuals or involving an irrevocable life insurance trust. The contracts protect your life insurance proceeds from an estate tax. 

Depending on how you execute the plan, you may face a gift tax, which applies to assets gifted between family members. There’s a yearly limit of $18,000 and a lifetime threshold equal to the estate tax limit. [3]

If you’re interested in making split-dollar life insurance part of your business or estate plans, make sure to consult a licensed professional. The best plan for you will depend on the financial needs of your business, business partners, and your family.

References

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Policygenius uses external sources, including government data, industry studies, and reputable news organizations to supplement proprietary marketplace data and internal expertise. Learn more about how we use and vet external sources as part of oureditorial standards.

  1. IRS.gov

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    Estate Tax

    ." Accessed June 05, 2024.

  2. IRS.gov

    . "

    IRS provides tax inflation adjustments for tax year 2024

    ." Accessed June 05, 2024.

  3. IRS

    . "

    Frequently Asked Questions on Gift Taxes

    ." Accessed June 05, 2024.

Author

Andrew Hurst is a senior editor and a licensed auto insurance expert at Policygenius. His work has also been featured in The New York Times, The Wall Street Journal, Forbes, USA Today, NPR, Mic, Insurance Business Magazine, ValuePenguin, and Property Casualty 360.

Editor

Antonio helps lead our life insurance and disability insurance editorial team at Policygenius. Previously, he was a senior director of content at Bankrate and CreditCards.com, as well as a principal writer covering personal finance at CNET.

Expert reviewer

Maria Filindras is a financial advisor, a licensed Life & Health insurance agent in California, and a member of the Financial Review Council at Policygenius.

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