Life Insurance Policy

[Coleboy1]

I have a 2 person profit sharing plan. Husband and wife. The only asset in the plan is an insurance policy for the husband. The cash value of this policy is now over $250K so I'll be doing a 5500EZ. 

My question is do I count the premium paid as a contribution? Is there anything else I need to do? 

It's been many years since I've worked with life insurance in a plan.

 

Thank you!

[Lou S.]

Review the incidental benefit rules?

[Paul I]

I take it from the limited facts provided that the only contributions going into the plan are profit sharing contributions.  The amount of the profit sharing contribution would be based on the plan's allocation formula and would not be tied to the life insurance premium.  As Lou is hinting at, the plan would need to check that the life insurance is an incidental benefit provided by the plan.

It sounds like the plan has been around for a while.  Is this a new client for you?  If so, you should have a conversation with the client about how the plan was operated in the past.  Part of the conversation should focus on the reporting of the cost of current year life insurance protection (to be known eternally as PS58 costs).  The PS58 cost is taxable to the covered individual in each year and should be reported on a 1099.  This also created after-tax basis in the plan even if the only contributions are profit sharing contributions.

I suggest getting all of the facts about the plan.  Hopefully, the client is fully aware of the operating requirements for the plan and none of this will be a surprised to you or to them.

[Coleboy1]

This plan is only 2 years old. A 5500EZ has to be for the first time for 2022 since assets are over 250K. The only assets are the cash value of the policy.

[Paul I]

When and how did the policy become an asset in the plan?  Was it purchased with rollover contributions or profit sharing contributions, or perhaps came in as an in-kind transfer into the plan? 

[Bill Presson]

If they're using rollover dollars to pay the premium, then it automatically exceeds the incidental limit because rollover dollars aren't included in the calculation. I'm also assuming the premiums are boing paid by the plan although that's not clear.

[Jakyasar]

This is a 2 year old plan and how can it have only insurance policies? Did they rollover some other policies into the plan? Something is amiss here, at least for me.

[Paul I]

We all agree that very, very likely this plan has one or more problems.  Hopefully, Coleboy can provide some additional details that we can use to provide some suggestions on clarifying what may be problematic, identifying possible courses of action, educating the client and ultimately cleaning things up.

That's what we do.

[ErnieG]

Coleboy1 as captioned in other posts more information is needed.  However, life insurance may not be the only Plan Asset.  Life insurance in a Plan generally must be incidental to the primary purpose of providing retirement benefits.  To meet this rule, specifically for Defined Contribution Plans there is a percentage of contribution test that is used on an aggregate amount of contributions made on the participant's behalf.  This rule generally states that if whole life insurance is being used the premium may not be more than 50% (49.99%) of the contribution, if universal life is being used up to 25% of the contribution may be used towards premiums.  There is an exception for funds that have been in the Plan for more than two years and funds that have been transferred in to the Plan.  Failure to comply with the incidental benefit rule is a qualification issue and corrective measures should be taken if in fact, there is a violation.

[Bird]

Another possibility is that this could be an annuity and not a life insurance policy. People sometimes get them mixed up. Still doesn't make sense that the plan is two years old and has that amount of money in it, unless as suggested it is a rollover. Somehow I doubt that as well.

[Coleboy1]

Hi,

This plan started in 2021. Money was rolled over from an IRA( so I'm told) and was used to pay the premiums on a life insurance policy that was purchased under the plan. This is what was told to me by my boss. The cash value of the life insurance policy exceeds $250k this year so I have to complete the 5500EZ. I'm reporting the money from the IRA as rollover money and the cash value as of 12/31/22 as the assets. Since this is the first year for the EZ to a make the beginning balance $0 or do I report the balance of the policy as of 12/3/21? 

My alarm bells are going off which is why I asked the question. I am the new person in this firm and am being told that this is legal. Now the client said that the premiums are being paid by the company but the person who set this plan up is saying they were paid from IRA rollover money. I'm just confused.

[Bill Presson]

Look at the investment statements. It's easy enough to see if the money came out or not.

If the company is paying the premium (which I oppose), the best you could do is figure out how to treat that as contributions to the plan.

If the only money in the plan is rollover money, then the insurance premium exceeded the incidental limits immediately and the entire premium each year is a taxable distribution. It's treated just like an in-service distribution. Rollover money doesn't count in the incidental calculations.

How did the rollover money not exceed $250k? The premiums paid into the policy will have expenses and cost of insurance.

Frankly, you've got a mess and people that only know parts of the rules sold this and set it up. You're best bet is to get ERISA counsel involved and see what can be salvaged.

What you use as the beginning balance (and it's whatever the value was on 1/1/22) is the very least of the issues here.