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Rolling over or terminating a DC SERP and movingg to a split dollar plan


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Client being advised to roll or terminate? existing DC SERP balances into new split dollar using loan regime. Can you convert an unvested DC balance into some type of split dollar? What would the accounting look like? How would move to split dollar work? Is this even possible, regardless ofbeing a good idea?

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Guest LeeNunn

This transaction could be called a SERP swap. Such transactions have lost favor for many reasons, including tax and accounting issues.

You don’t say whether the DC SERP is subject to 409A, but a new split dollar arrangement might be subject to 409A. If the split dollar arrangement is taxed as loan under the 1.7872-15 regulations, the executive starts with no equity unless he wants pay tax upfront. Then the executive either pays tax every year on imputed interest, or is on the hook to pay the interest. Even if the loan is non-recourse, any shortfall in the loan repayment is taxable. The with a split dollar loan is that the insurance policy has to outperform the loan. In this case, you have to also outperform the future value of the current DC SERP benefit.

You could settle the DC SERP with split dollar taxed each year on the value of the coverage and eventually on any lifetime benefits. The key is avoiding any equity, which is broadly defined in the 1.61-22 regulations. 409A does permit deferral of benefits, but there are a couple of caveats, including a minimum of five years’ delay in the first payment.

Then, you have to decide whether the split dollar arrangement is a loan or a benefit obligation for accounting purposes. EITF 06-4 and 06-10 determine the split dollar accounting. If the arrangement is a loan for accounting purposes, it’s probably a term loan because an executive would not waive a DC SERP balance in favor of a callable split dollar loan. The discount recognized in the split dollar term loan would probably have to be at least as great as the current DC SERP. Likewise, a split dollar benefit obligation would probably have to be at least as great as the current DC SERP liability.

The main accounting theme is attribution. The plan determines when the split dollar benefit is earned. If the executive can quit his job and receive the full benefit, the attribution period is over. Reversing the benefit obligation of the DC SERP through the income statement is unlikely. If loan accounting applies, the asset (or even liability) reflects the present value of future cash flows under APB21. If benefit accounting applies, the employer records the cash value life insurance as an asset and recognizes a liability for the present value of future benefits attributable to past service.

See past issues of the Journal of Deferred Compensation for more discussion of these issues.

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