What Is An Executive Bonus Plan?
An Executive Bonus Plan, which is also known as a “Section 162 Bonus Plan,” is an arrangement in which a business pays the premium on a life insurance policy owned by the key employee as a “bonus” to that employee. If the amount of this bonus is considered a “reasonable compensation,” then the total is deductible as a business expense.
Executive Bonus Plans are often used by companies that recognize that they would experience a significant loss in productivity, profit, or community ethos if they were to lose one of their workers to premature or unexpected death.
Considering a sudden loss of a uniquely valuable employee is troublesome. Realizing the emotional consequences and financial impact on your business is essential. What would happen? How much income would be at risk? Would you lose a special certification or expertise required by your customers? How long would it take to replace that person with someone with similar qualifications, contacts, and experiences? Once found, what is the cost to incentivize someone to jump ship and leave their current company?
If you have worker(s) who would create a void within your business, you likely have a “key employee,” who will be protected by a Section 162 Bonus Plan. The beneficiary would receive the life insurance payout should essential worker(s) pass away.
How To Set Up An Executive Bonus Plan:
There are two phases to the set-up process for these plans.
Phase One: Decision Making
Before you can set up the plan, you need to determine which valuable employee(s) who are going to be in the bonus plan. The amount called the “targeted death benefit,”
must be determined, the bonus or monetary value of the policy each covered employee will receive.
There can be different levels for different employees. Importantly, you don’t have to insure everyone at the same level. The appropriate level for your company and the standard for each level of worker(s) is variable providing you with considerable flexibility.
Phase Two: Make Agreements with Employees
During this phase, the business creates an agreement for each “key employee,” chosen for the plan. As the employer, this agreement obligates you to pay the annual premium of the life insurance policy (in the form of a bonus). You will continue to pay this amount for as long as the person remains employed with the firm.
Some important things to know include:
- The critical employee(s) retains ownership rights of the policy.
- These rights allow the employee to name the beneficiary and access the policy’s cash value.
Understand The Tax Implications:
You have two options to consider.
Option One: Treat the premium as a single bonus.
If you choose this option, your business will treat the premiums as a bonus. That means it will part of the taxable compensation for the employee(s) designated in the plan. The employee then pays the income tax on the “bonus” compensation.
Option Two: Treat the premium as a double bonus.
This option provides a more substantial bonus amount to assist the employee in covering the additional out of pocket costs associated with the insurance policy. In this instance, the company is covering both the policy premiums and taxes — this eliminates any expense on the part of the employee.
By choosing option 2, realize that the total amount of the bonus is tax-deductible to your business, as long as it’s justified (established) as reasonable compensation.
What Are The Benefits To This Type Of Policy?
In our experience, companies that aren’t using Executive Bonus Plans to their advantage are missing the boat. They are losing out on some crucial leverages and protections.
Think about the difficulty your company would face if you had to deal with the tragic loss of one of your top executives or employees. In addition to the tremendous personal loss you would feel from the emotional impact of such a tragedy, you would also find yourself dealing with the professional aftermath.
Taking out an insurance policy to protect you in the event of this kind of loss is such an idea worthy of serious consideration. Protecting you from financial impact is not the only reason to consider taking out an Executive Bonus Plan. Gain from the protection and significant benefits for the employees themselves.
Benefits For The Business
Second, the employee(s) bonused realize you recognize their extraordinary value and contribution to the business. The individual(s) are self-motivated, happy, and feel secure about their position. These individuals are cheerleaders within the firm. They remain loyal. Their positive attitude and presence speak loudly to their peers. Since you chose the employee(s) impacted by the plans, you are intentionally indicating whom you regard as excellent workers and company leaders.
Lastly, since the company (you) is paying an insurance policy premium on them, the policy is free. Who doesn’t like free, especially something so significant? An unexpected, jaw-dropping benefit that sells itself, no matching contribution. Realize how their loved ones feel, how supportive and secure everyone becomes. They learn what the employee(s) have known; the company is an excellent place to work – a benefit becomes a morale booster at work and home.
Benefits For The Insured Worker
What about the employee? Do they benefit as much as you do, as the employer? We believe that yes, there are significant benefits to your key employees.
- The designee(s) chosen for the bonus plan owns the life insurance policy.
- Because the policy belongs to the employee(s, the beneficiary is their choice.
- The cash within the policy can provide savings for retirement or supplemental income.
- As a tax-free death benefit, the policy terms are customizable with riders to address specific concerns, such as illness, disability, longterm care.
The flexibility within these plans is something that all businesses need to explore. Although most individuals think in terms of death when you speak about life insurance, business owners have choices far beyond.
What Does All Of This Mean For You As An Employer?
If you are an employer who would suffer if you lost key workers, you should investigate an Executive Bonus Plan. This life insurance strategy is a consideration for playing a significant role in long-term planning. Chat with an insurance agent about the many business owner’s policies available in the insurance market. There are policies for all sizes of business.
Speaking with an experienced insurance agent is the best method to learn about your options. A knowledgeable, trusted agent will know of reliable carriers who will prepare proposals.
Since 2010, Peter Green Insurance Agency LLC (PGIA) has provided businesses and individuals with “Asset Protection and Financial Security”™ by selectively using insurance coverages as a hedge against inherent financial risks.
Peter W. Green is the managing member of PGIA and a Certified Insurance Counselor (CIC). CIC is an internationally recognized designation awarded by The National Alliance for Insurance Education and Research to those who make the investment in sweat equity, time and study to gain a unique level of expertise.
Need answers to an insurance question? Have a specific insurance concern? Would you like a review of your policies before renewal? Call our office, 714-258-2800. Would you like to understand disability insurance policy specifics? Call and ask for Peter. If you rather, contact Peter by email. Our agency offers a unique level of customer service rarely found today. Let’s talk.