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Final Split Dollar Regulations: What They Mean to YOU!

Split-dollar is a popular estate and employee benefit planning technique. It is used for one party to assist another party in the purchase and maintenance of large amounts of life insurance.

If you are covered by - or your company provides - split dollar insurance coverage, you should read (and feel free to share with others) the following commentary:

Final regulations have just been issued (September 11th) by the Treasury and IRS on so called split-dollar life insurance arrangements. These regulations apply only to arrangements entered into on or after September 18th (and those entered into prior to that date if "materially modified.”)

Much more favorable rules apply to all prior plans - so it is VERY important that those more favorably treated older plans NOT BE TOUCHED OR CHANGED IN ANY WAY until advice and guidance from competent tax counsel has been obtained.

Here are some additional things to consider:

• The definition of "split dollar agreement" is exceptionally broad and encompasses many arrangements that are not formally labeled "split-dollar." It doesn’t matter what the parties' intent was; if the arrangement falls within the definition, it will be treated as a split-dollar arrangement and taxed accordingly. Failure to report income from a split dollar plan could conceivably result in transforming otherwise income tax free life insurance death benefits into taxable ordinary income. So don't assume a transaction involving life insurance between two or more parties is not subject to split dollar rules! Check with tax counsel.
• True key employee coverage is excepted from the new (and generally more tax expensive) split dollar rules. Key employee coverage is defined as the purchase by an employer of a life insurance contract to insure the life of a "key" employee or shareholder - if the employer retains ALL the rights and benefits of the contract (including the rights to all death benefits and cash value).
• The new regulations mandate two mutually exclusive regimes, depending on who is the legal owner of the policy, for all new split dollar arrangements. These two regimes are the "economic benefit" regime and the “loan regime.” In a nutshell, these generally mean that, depending on who owns the policy, one party is deemed to be providing taxable economic benefits to the other to finance life insurance benefits - or one party is fictionally treated as making loans to the other to finance life insurance premiums. In either case, the shifting of dollars results in either income or gift taxes (or in some cases, both, to the party being benefited).
• Investigate the very special safe harbors that, in certain cases, allow split-dollar arrangements in existence before January 28, 2002 to be terminated before the end of this year - with no tax (gift or income) reportable by the insured employee on the value received, if the employer is entitled to a return of all of the premiums it has paid.
• Check out the special provisions that suspend any tax on equity indefinitely - as log as the arrangement is continued until the insured dies and the economic benefits received are properly reported.
• If your arrangement is "non-equity," that is, if covered individuals receive ONLY the right to name the recipients of the policy's death benefits, you’ll probably want to continue things as they are - particularly if the arrangement has been in existence for some time.
• There are special nontax issues involved with certain so called "collateral assignment" (the employee rather than the company owns the insurance contracts) split dollar in the case of publicly-traded corporations. Counsel should immediately investigate the implications of the Sarbanes-Oxley Act on such arrangements.
• Please note that the final regulations and the other aspects involved are exceedingly broad as well as complex. If you are covered under such a split dollar arrangement or your firm provides split dollar as an employee benefit, obtaining the immediate advice of competent counsel with respect to these and other related issues is essential.
• As always, please feel free to call to discuss these - or other areas of concern.