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Client wants to transfer a whole life policy on his life to a profit sharing plan in which he is a participant. There is a PTE which allows the transfer subject to certain requirements dealing with value. Assume that is not at issue and that the ownership of the policy can be either personal or corporate.

 

Can he make it as an in kind contribution equal to the CSV?  If the policy has no CSV, can it be transferred unilaterally? If it is transferred, do the transfer for value rules require that the portion of the Plan's death benefit attributable to the insurance policy be treated as income?   

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Why would anyone want to do such a thing?  It makes no sense to me but maybe I'm missing something...anyway, the first thing I'd do is try to dissuade him from doing it.

Having said that, "transfer" in a plan context really means "contribute" (as in a rollover) or "buy" (as in the plan buys it from him).  There is no simple "transfer" (as in "let's just slide this asset into a plan").  The appropriate value is the interpolated terminal reserve - I doubt that is $0 - and as I see it the most likely scenario would be a purchase by the plan.

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I haven't read the PTE in a while, but I believe the PTE you are referring too is to get Life Insurance out of the plan.  I don't think it works in the opposite, to put the Life Insurance into the plan - and as was stated by Bird - why would you do that?  It is just a big pain and for what purpose.  I don't see any tax advantages, and in fact don't you lose tax advantage?  As the money comes out of the plan, it is taxable, whereas in most cases Life Insurance payouts are tax free (from what I know - haven't actually cashed in a policy).  So you are taking an asset without taxes and creating a taxable investment.

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3 hours ago, R Griffith said:

I haven't read the PTE in a while, but I believe the PTE you are referring too is to get Life Insurance out of the plan.

Right. PTE 92-6, and yes, only works to get policy out of plan, not into it.

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Yes, but 92-5 allows the plan to purchase insurance from the individual. I have blessedly put the details out of my mind, but you may wish to look at it as a starting point for your research. I venture no opinion as to whether it is a good or bad idea, other than to say having insurance in the plan usually complicates administration/compliance quite a lot.

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There are advantages to having insurance in a small plan.  That discussion aside, further research seems to support the transfer of a policy to the plan as permissible. See Rev. Rul. 73-338.  

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This reminds me of a plan sponsor who told me that he had a participant insisting that they offer tax-sheltered annuities (the investment products, not the actual annuities) in the 401(k) plan because they had read so much about what a great thing they were for retirement savings.

But this example is even worse because the person would be converting a product with a tax-free "output" into a taxable output (at ordinary income rates).  

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Actually, most of the proceeds will be tax-free to the beneficiary if the participant dies. But still, it's only a good idea if the individual needs life insurance for his/her family more than retirement savings and can't afford the premiums without using retirement plan contributions. If you can do both your retirement plan contributions and the premiums, outside the plan, that's the better way to go, I think. But you are not going to turn tax-free death proceeds into taxable by putting in plan.

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On 7/14/2021 at 10:48 AM, Luke Bailey said:

Actually, most of the proceeds will be tax-free to the beneficiary if the participant dies. But still, it's only a good idea if the individual needs life insurance for his/her family more than retirement savings and can't afford the premiums without using retirement plan contributions. If you can do both your retirement plan contributions and the premiums, outside the plan, that's the better way to go, I think. But you are not going to turn tax-free death proceeds into taxable by putting in plan.

So how do you pay out the life insurance benefits from the retirement plan?  I have administered plans with LI, but never had the participant die.  They always ended up cashing out or buying the policy from the plan.  I just see this as all kinds of messy.  Does the insurance company actually pay out directly to the beneficiary (if the policy gets registered correctly in the plan with the beneficiaries)?  I would have expected the cash out on death to go to the retirement trust.  Thus adding to the retirement assets, that have to be paid to the beneficiary of the retirement plan.  Which then brings up the question on if you can have a different beneficiary for the LI policy and the Retirement Plan, things that make me go hmmmm.

I also wonder about a participant with the LI in the plan, turning 72 and then having to take RMD's based on the value of the LI, seems so odd.

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RGriffin, while the participant is alive and applying contributions or other amounts to premiums, the term cost of the life insurance coverage is reported annually on Form 1099-R as taxable, but not subject to 72(t) 10% penalty. When the participant dies, the cash value of the policy immediately before death is treated as taxable (when distributed), and the excess payable by the insurer over the cash value before death is tax-free to the beneficiary under IRC sec. 101. I have never had to advise on this situation after death either, but I imagine the insurer pays the cash value amount to the plan, which distributes it and reports as a regular taxable distribution on Form 1099-R (unless was Roth), while the death proceeds are paid directly to the beneficiary and not reported on 1099-R.

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12 hours ago, Luke Bailey said:

When the participant dies, the cash value of the policy immediately before death is treated as taxable (when distributed), and the excess payable by the insurer over the cash value before death is tax-free to the beneficiary under IRC sec. 101. I have never had to advise on this situation after death either, but I imagine the insurer pays the cash value amount to the plan, which distributes it and reports as a regular taxable distribution on Form 1099-R (unless was Roth), while the death proceeds are paid directly to the beneficiary and not reported on 1099-R.

Mostly correct but the insurer should be paying everything to the plan, and the plan is responsible for paying and reporting to the beneficiary.  No reason that the tax-free part should not be reported on a  1099-R but as non-taxable.  The taxable portion just becomes part of the account balance and is eligible for rollover.

Of course we know that doing things right is somewhere down the list for agents, so the bene on the policy might be the spouse, or the company, or who knows what.  All bets are off then.

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2 hours ago, Bird said:

Mostly correct but the insurer should be paying everything to the plan, and the plan is responsible for paying and reporting to the beneficiary.  No reason that the tax-free part should not be reported on a  1099-R but as non-taxable.  The taxable portion just becomes part of the account balance and is eligible for rollover.

Of course we know that doing things right is somewhere down the list for agents, so the bene on the policy might be the spouse, or the company, or who knows what.  All bets are off then.

This is correct. The owner and beneficiary of the policy is supposed to be the plan. The plan then pays out the benefit.

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6 hours ago, Bird said:

Mostly correct but the insurer should be paying everything to the plan, and the plan is responsible for paying and reporting to the beneficiary.  No reason that the tax-free part should not be reported on a  1099-R but as non-taxable.  The taxable portion just becomes part of the account balance and is eligible for rollover.

Makes sense, Bird, but this is not actually in the 1099-R instructions, right? I word-searched and it seemed like all the references to life insurance were to annyal reporting of term cost.

 

6 hours ago, Bird said:

Of course we know that doing things right is somewhere down the list for agents, so the bene on the policy might be the spouse, or the company, or who knows what.  All bets are off then.

That's where I'm comin' from.

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We have a similar situation.  Broker is in the process of setting up a new defined benefit plan for a client.  The client has an insurance policy he wants to split the policy, 1/2 will be a transfer into the plan (transfer ownership from himself to the XYZ Pension Plan).  The other half will remain individual ownership.

The actuary, who has now retired, had recommended this and told the client to strip out the portion of the cash value of the face amount to be transferred, ie take a policy loan for the full cash value and then change the ownership and beneficiary to the plan.

Years ago, (prior to PPA) when I worked at an insurance company, we saw insurance policies being transferred OUT of a plan as the participant had terminated employment or the plan terminated and the individuals needed to keep the policy; but never seen an instance where a personally owned policy was being transferred INTO a qualified plan. I'm not questioning the wisdom (or lack thereof) of this, but do not recall exactly how this would be accomplished:

Is this correct:  Insured takes policy loan equal to the cash value of the policy, changes owner and beneficiary to the XYZ Pension Plan, receives check for the cash value.

What does he do with the check? Deposit into the plan?  He does have the option of not repaying the loan, but not if we consider the loan a plan asset.  I can't see him  transferring the cash value into the plan, as that would defeat the whole purpose and as a plan asset, would  reduce the investment portion of the plan contribution.

I'm bit hazy on how this transaction would be done and would appreciate any assistance.

 

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On 7/16/2021 at 2:52 PM, Luke Bailey said:

Makes sense, Bird, but this is not actually in the 1099-R instructions, right? I word-searched and it seemed like all the references to life insurance were to annyal reporting of term cost.

Oooh, I don't think it is in the instructions.  I was fortunate (using that word cautiously as any experience with insurance in a plan is an unfortunate one) to learn about this when I was young so it is stuck well in my brain.  God forbid any of those reporting rules have changed because I couldn't get it unstuck. 

Anyway, while not directly in the instructions, I think someone smarter than I could cobble together or otherwise trace the reporting trail from regs, law, etc.

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21 hours ago, thepensionmaven said:

We have a similar situation.  Broker is in the process of setting up a new defined benefit plan for a client.  The client has an insurance policy he wants to split the policy, 1/2 will be a transfer into the plan (transfer ownership from himself to the XYZ Pension Plan).  The other half will remain individual ownership.

The actuary, who has now retired, had recommended this and told the client to strip out the portion of the cash value of the face amount to be transferred, ie take a policy loan for the full cash value and then change the ownership and beneficiary to the plan.

I think I would explain that this throws an incredible amount of sand in the gears and ask what is the (perceived) benefit?  It's so nonsensical that I can't really answer the question of how to process it.  Probably the first thing to do is figure out what your marginal costs are and lay that on the table, or perhaps just say no you can't do it.

21 hours ago, thepensionmaven said:

Is this correct:  Insured takes policy loan equal to the cash value of the policy, changes owner and beneficiary to the XYZ Pension Plan, receives check for the cash value.

What does he do with the check? Deposit into the plan?  He does have the option of not repaying the loan, but not if we consider the loan a plan asset.  I can't see him  transferring the cash value into the plan, as that would defeat the whole purpose and as a plan asset, would  reduce the investment portion of the plan contribution.

Again, not wanting to dig into this inanity too deeply, but NO, that check does not go to the plan.  He personally took the loan so it is his money.  He is transferring the (basically empty) policy to the plan; in theory that is a $0 transaction.  Nothing back and forth except the valueless policy.  (But now he has a crippled policy within the plan...what is the game plan for paying interest AND premiums?!)

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Good question, the whole thing does not make sense, I'm sure the life insurance agent mentioned his client could put life insurance in the plan and deduct the premium.From what you are saying, the insured would be responsible to pay the interest and premium as if a personal policy.

Since that portion of the policy transferred into the plan has no cash value, am I to assume it never will, or if so, when would we start counting any cash value buildup?

This is CRAZY, but it's what the client wants to do.

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I was involved in a lot of new insurance policies bought by plans back in the 80's. The idea was to use the plan money to pay premiums for the first few years when the internal cash buildup was very low, then the participant (or more typically a trust) would buy the policy out and fund it going forward.

I've never seen a policy sold TO the plan after having been in existence for years. It may be what the client wants to do, but clients are often wrong or misguided.

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17 hours ago, thepensionmaven said:

Since that portion of the policy transferred into the plan has no cash value, am I to assume it never will, or if so, when would we start counting any cash value buildup?

Just to clarify, I was assuming the policy was literally split into two and one was going to the plan.  I don't think a single policy could be jointly owned by an individual and by a plan.  And I don't think you should assume it will never have cash value buildup; money will be going into it.

Just musing but I suppose the bright idea is that he is using "tax-deductible" money to pay premiums (and loan interest) just like he would with a new policy in a plan.  Unfortunately it is easier to make that statement than it is to actually run numbers and analyze the long term costs and benefits.

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