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Options for life insurance contracts in a terminating MPP Plan


Lori H

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A pension plan has several participants with cash value life policies in it. What are the participants options with regards to the plan termination? Can the policies be assigned to the participants? How would the participant be taxed on it? Current cash value? Could the participant roll the policy over to another plan assuming it allows for ins.?

Thanks

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A pension plan has several participants with cash value life policies in it. What are the participants options with regards to the plan termination? Can the policies be assigned to the participants? How would the participant be taxed on it? Current cash value? Could the participant roll the policy over to another plan assuming it allows for ins.?

Thanks

Its been a few years since I've handled this sort of thing (and at another job, so I don't have access to my checklists/procedures), but IIRC, the only options are for the participant to

1.purchase the policy from the Plan (for current CSV) or

2. cash it in - the proceeds go into the Plan and are then available for rollover

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A pension plan has several participants with cash value life policies in it. What are the participants options with regards to the plan termination? Can the policies be assigned to the participants? How would the participant be taxed on it? Current cash value? Could the participant roll the policy over to another plan assuming it allows for ins.?

Thanks

Its been a few years since I've handled this sort of thing (and at another job, so I don't have access to my checklists/procedures), but IIRC, the only options are for the participant to

1.purchase the policy from the Plan (for current CSV) or

2. cash it in - the proceeds go into the Plan and are then available for rollover

as a person placed into a 412i, i want to point out that the CSV is not the correct fair market value in many instances. the insurance company should be able to give you the calculation but its the greater of ther net interpolated terminal reserve or PERC value. Agents frequently promoted putting insurance into qualified plans so that they could be purchased from the plan during the early years while the cash surrender value was low and the IRS put a stop to that. Google PERC value and 412i or 412e or whole life to get more info.

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Thanks for the replies but the participant wants to keep the coverage. He is paying about $2000 in premiums and its CSV increased by about $14000 last year. He is 64 with heart condition as well. So he just reimburses the plan with the current CSV or PERC of the policy? Could the policy not be rolled over into a successor plan?

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Thanks for the replies but the participant wants to keep the coverage. He is paying about $2000 in premiums and its CSV increased by about $14000 last year. He is 64 with heart condition as well. So he just reimburses the plan with the current CSV or PERC of the policy? Could the policy not be rolled over into a successor plan?

I don't think rollovers are allowed. The participant can purchase the policy, however. Apparently there was some new guidance on determining FMV that was issued right around the time I stopped working at the law firm whose Retirement Plan included whole life policies as an investment option.

I found this summary of the guidance which has links to the source info:

http://www.fjplife.com/pdf/IRS_Releases_Ne...e_Insurance.pdf

You might want to consult your ERISA counsel on this.

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Thanks for the replies but the participant wants to keep the coverage. He is paying about $2000 in premiums and its CSV increased by about $14000 last year. He is 64 with heart condition as well. So he just reimburses the plan with the current CSV or PERC of the policy? Could the policy not be rolled over into a successor plan?

if the plan allows it, an insurance policy can be rolled into a DC plan. In my case i was told it could be rolled into my 401k/PS if closing my 412i. i imagine the insurance company that sold the policy could assist with this if desired. It can not be rolled into an ira. with that being said, the fair market price will continue to increase and eventually he will need to surrender the policy unless the person is very confident that he/she will die before terminating the DC plan. While i am not in the business, i am familiar with this bc i was scammed into a 412i/e at age 39. Putting permanent insurance within a qualified plan is almost always a bad idea.

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Thanks for the replies but the participant wants to keep the coverage. He is paying about $2000 in premiums and its CSV increased by about $14000 last year. He is 64 with heart condition as well. So he just reimburses the plan with the current CSV or PERC of the policy? Could the policy not be rolled over into a successor plan?

Putting permanent insurance within a qualified plan is almost always a bad idea.

Very True!!!

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Thanks for the replies but the participant wants to keep the coverage. He is paying about $2000 in premiums and its CSV increased by about $14000 last year. He is 64 with heart condition as well. So he just reimburses the plan with the current CSV or PERC of the policy? Could the policy not be rolled over into a successor plan?

Putting permanent insurance within a qualified plan is almost always a bad idea.

Very True!!!

unfortunately i didnt know that then. the worse part is that peachtree planning agents told me i could buy the whole life out for a fraction of the premiums while the cash surrender value was low after i figured out that maximizing deductions meant maximizing costs and commissions. extremely unethical in my view but they prey on physicians. i now educate myself as heavily as possible on these issues and try to help other physicians avoid this mess.

i can only assume your client doesnt have the resources to buyout the whole life policy at this time since he wants the insurance. It would seem to me that putting the plan into a DC plan just kicks the can down the road.

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Another option is for the plan to borrow a percentage of the cash value and then have the participant buy the policy for the lower cash value amount.

Assume for the minute that the cash value and the fair market value are exactly the same.

If the cash value is 30,000, the plan could borrow $27,000 (for example) and then the participant buy the policy for #3,000. The $27,000 would stay in the plan with the rest of the participant's investments and be handled like any other cash.

The partiicpant would then be responsible for the premium payment and the loan interest.

If the policy is with a mutual insurance company, one option is to change the diviidend method to reduce premiums instead of additional paid up coverage. Often if the policy is pretty old (like this one sounds), the dividend will pay the premium completely and the participant can decide what to do on the loan interest. This is an important option for someone that can't qualify for new death benefits.

William C. Presson, ERPA, QPA, QKA
bill.presson@gmail.com
C 205.994.4070

 

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i can only assume your client doesnt have the resources to buyout the whole life policy at this time since he wants the insurance. It would seem to me that putting the plan into a DC plan just kicks the can down the road.

True, but might be the lesser of evils.

I wonder about the circumstances surrounding the plan termination. This appears to be a very large policy, perhaps for an owner; is there a change of ownership? If the idea is to get rid of the MPP might it better be simply restated as a PSP? Otherwise Bill Presson's suggestion of borrowing out some or most of the cash value before distributing or buying the policy is good, just be careful because a stripped-out policy can be expensive to maintain.

(When I was new to the business, I asked my boss, a life insurance salesman/TPA "why should life insurance be in a qualified plan?" His answer: "To make a commission." That is really the only reason; it pretty much stinks at the end of the road for the participant.)

Ed Snyder

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This is a M.D. He has the cash to buyout the policy. However, he is leaning towards keeping the plan frozen and just paying the annual admin fees. He is of the opinion that if he purchases the policy he will owe long term capital gains. The policy is with MassMutual

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i can only assume your client doesnt have the resources to buyout the whole life policy at this time since he wants the insurance. It would seem to me that putting the plan into a DC plan just kicks the can down the road.

True, but might be the lesser of evils.

I wonder about the circumstances surrounding the plan termination. This appears to be a very large policy, perhaps for an owner; is there a change of ownership? If the idea is to get rid of the MPP might it better be simply restated as a PSP? Otherwise Bill Presson's suggestion of borrowing out some or most of the cash value before distributing or buying the policy is good, just be careful because a stripped-out policy can be expensive to maintain.

(When I was new to the business, I asked my boss, a life insurance salesman/TPA "why should life insurance be in a qualified plan?" His answer: "To make a commission." That is really the only reason; it pretty much stinks at the end of the road for the participant.)

Yes, the company is being shut down and merged with a hospital group, so there will be no restatement. The few doctors that have policies and need to keep the coverage are just considering to keep the plan frozen and pay the annual admin fees. Technically the practice will be in existence for the next 5 years. The face amount is appx $800,000 and the csv $311,239

I agree life insurance has no business being in a qualified plan. You can earn more using other products. My dad always said that and he was a life agent.

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This is a M.D. He has the cash to buyout the policy. However, he is leaning towards keeping the plan frozen and just paying the annual admin fees. He is of the opinion that if he purchases the policy he will owe long term capital gains. The policy is with MassMutual

why does he have this opinion if he is using the true fair market value (greater of NITR or PERC)? If his goal is to keep this policy until death, then likely he needs to buy this out now. If he just wants to keep the insurance going for a few more years then surrender the policy then fine i can see the logic although he needs to realize the death benefit is not completely tax free currently.

He should contact the massmutal rep and have that rep contact mass mutual's actuaries. they can provide the correct purchase price and confirm no capital gains tax from just purchasing it out. At this point it makes much more sense to me (im also a MD by the way) to purchase out and then take tax free loans leaving the remainder to his family at his eventual death. He has already paid all the fees of whole life, why not get some benefit?

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Another option is for the plan to borrow a percentage of the cash value and then have the participant buy the policy for the lower cash value amount.

Assume for the minute that the cash value and the fair market value are exactly the same.

If the cash value is 30,000, the plan could borrow $27,000 (for example) and then the participant buy the policy for #3,000. The $27,000 would stay in the plan with the rest of the participant's investments and be handled like any other cash.

Bill, forgive my ignorance in this area - I am not real familiar with life insurance, so would appreciate your insight. Do you have cites that would back up this option? How would this transaction be taxed - what value is used? It seems like the DOL uses one amount for fair market value, and the IRS uses something very different (like that has never happened before!). :o

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This is a M.D. He has the cash to buyout the policy. However, he is leaning towards keeping the plan frozen and just paying the annual admin fees. He is of the opinion that if he purchases the policy he will owe long term capital gains. The policy is with MassMutual

Actually it's more the opposite; leaving the policy in the plan converts otherwise tax-free death benefits to ordinary income.

When you die with a policy in a plan, the tax-free part is the "at-risk" portion (face amount minus the "cash value" (FMV)) (plus PS-58 costs already taxed) - i.e. the cash value is taxable. So if the policy increases by 14,000 each year, the tax-free benefit decreases by that much and the taxable portion increases by that much.

Ed Snyder

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Another option is for the plan to borrow a percentage of the cash value and then have the participant buy the policy for the lower cash value amount.

Assume for the minute that the cash value and the fair market value are exactly the same.

If the cash value is 30,000, the plan could borrow $27,000 (for example) and then the participant buy the policy for #3,000. The $27,000 would stay in the plan with the rest of the participant's investments and be handled like any other cash.

Bill, forgive my ignorance in this area - I am not real familiar with life insurance, so would appreciate your insight. Do you have cites that would back up this option? How would this transaction be taxed - what value is used? It seems like the DOL uses one amount for fair market value, and the IRS uses something very different (like that has never happened before!). :o

Hard to summarize the bizarre insurance part, but here is a very good article.

http://documents.jdsupra.com/29f2aeae-4b95...36082865956.pdf

William C. Presson, ERPA, QPA, QKA
bill.presson@gmail.com
C 205.994.4070

 

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Actually it's more the opposite; leaving the policy in the plan converts otherwise tax-free death benefits to ordinary income.

When you die with a policy in a plan, the tax-free part is the "at-risk" portion (face amount minus the "cash value" (FMV)) (plus PS-58 costs already taxed) - i.e. the cash value is taxable. So if the policy increases by 14,000 each year, the tax-free benefit decreases by that much and the taxable portion increases by that much.

Not always true, especially with policies issued by mutual companies. Quite often the death benefit will continue to rise so that the net amount at risk remains at least as large as the original purchase.

William C. Presson, ERPA, QPA, QKA
bill.presson@gmail.com
C 205.994.4070

 

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Another option is for the plan to borrow a percentage of the cash value and then have the participant buy the policy for the lower cash value amount.

Assume for the minute that the cash value and the fair market value are exactly the same.

If the cash value is 30,000, the plan could borrow $27,000 (for example) and then the participant buy the policy for #3,000. The $27,000 would stay in the plan with the rest of the participant's investments and be handled like any other cash.

Bill, forgive my ignorance in this area - I am not real familiar with life insurance, so would appreciate your insight. Do you have cites that would back up this option? How would this transaction be taxed - what value is used? It seems like the DOL uses one amount for fair market value, and the IRS uses something very different (like that has never happened before!). :o

Hard to summarize the bizarre insurance part, but here is a very good article.

http://documents.jdsupra.com/29f2aeae-4b95...36082865956.pdf

Excellent article - thanks so much!

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Another option is for the plan to borrow a percentage of the cash value and then have the participant buy the policy for the lower cash value amount.

Assume for the minute that the cash value and the fair market value are exactly the same.

If the cash value is 30,000, the plan could borrow $27,000 (for example) and then the participant buy the policy for #3,000. The $27,000 would stay in the plan with the rest of the participant's investments and be handled like any other cash.

Bill, forgive my ignorance in this area - I am not real familiar with life insurance, so would appreciate your insight. Do you have cites that would back up this option? How would this transaction be taxed - what value is used? It seems like the DOL uses one amount for fair market value, and the IRS uses something very different (like that has never happened before!). :o

Hard to summarize the bizarre insurance part, but here is a very good article.

http://documents.jdsupra.com/29f2aeae-4b95...36082865956.pdf

The article seems to explain this option differently, if I am understanding it correctly (see #4 on the fourth page of the article). It says the Trustee of the plan takes the loan from the policy and can roll the proceeds of the loan into an IRA. Is that right? It feels a little like a PT?

I like your version much better!

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The article seems to explain this option differently, if I am understanding it correctly (see #4 on the fourth page of the article). It says the Trustee of the plan takes the loan from the policy and can roll the proceeds of the loan into an IRA. Is that right? It feels a little like a PT?

I like your version much better!

Not the loan, but the proceeds from the loan. At that point it's just cash and an asset just like any other asset.

William C. Presson, ERPA, QPA, QKA
bill.presson@gmail.com
C 205.994.4070

 

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The article seems to explain this option differently, if I am understanding it correctly (see #4 on the fourth page of the article). It says the Trustee of the plan takes the loan from the policy and can roll the proceeds of the loan into an IRA. Is that right? It feels a little like a PT?

I like your version much better!

Not the loan, but the proceeds from the loan. At that point it's just cash and an asset just like any other asset.

Thanks for taking time to respond to my questions! So in the article's example would the funds rolled into the IRA be considered an in-service withdrawal by the participant?

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Thanks for taking time to respond to my questions! So in the article's example would the funds rolled into the IRA be considered an in-service withdrawal by the participant?

The plan's distribution rules still apply. So if the participant is eligible for an in-service, then they can take the money out. If they aren't eligible, then they can't. Nothing changes there.

William C. Presson, ERPA, QPA, QKA
bill.presson@gmail.com
C 205.994.4070

 

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i can only assume your client doesnt have the resources to buyout the whole life policy at this time since he wants the insurance. It would seem to me that putting the plan into a DC plan just kicks the can down the road.

True, but might be the lesser of evils.

I wonder about the circumstances surrounding the plan termination. This appears to be a very large policy, perhaps for an owner; is there a change of ownership? If the idea is to get rid of the MPP might it better be simply restated as a PSP? Otherwise Bill Presson's suggestion of borrowing out some or most of the cash value before distributing or buying the policy is good, just be careful because a stripped-out policy can be expensive to maintain.

(When I was new to the business, I asked my boss, a life insurance salesman/TPA "why should life insurance be in a qualified plan?" His answer: "To make a commission." That is really the only reason; it pretty much stinks at the end of the road for the participant.)

Yes, the company is being shut down and merged with a hospital group, so there will be no restatement. The few doctors that have policies and need to keep the coverage are just considering to keep the plan frozen and pay the annual admin fees. Technically the practice will be in existence for the next 5 years. The face amount is appx $800,000 and the csv $311,239

I agree life insurance has no business being in a qualified plan. You can earn more using other products. My dad always said that and he was a life agent.

When I was in the law firm's Plan, I invested in the whole life insurance for a while. I was a single mother at the time and the life insurance option allowed me to leverage my Plan account balance. I invested say $1200 a year in a life insurance policy that had a death benefit of say $200,000. In the event of my death, that investment was more beneficial to my child than the $1200 staying in the Plan. I did cash it in once he went to college (12 years ago) and invested the proceeds in the other Plan options.

YMMV

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i can only assume your client doesnt have the resources to buyout the whole life policy at this time since he wants the insurance. It would seem to me that putting the plan into a DC plan just kicks the can down the road.

True, but might be the lesser of evils.

I wonder about the circumstances surrounding the plan termination. This appears to be a very large policy, perhaps for an owner; is there a change of ownership? If the idea is to get rid of the MPP might it better be simply restated as a PSP? Otherwise Bill Presson's suggestion of borrowing out some or most of the cash value before distributing or buying the policy is good, just be careful because a stripped-out policy can be expensive to maintain.

(When I was new to the business, I asked my boss, a life insurance salesman/TPA "why should life insurance be in a qualified plan?" His answer: "To make a commission." That is really the only reason; it pretty much stinks at the end of the road for the participant.)

Yes, the company is being shut down and merged with a hospital group, so there will be no restatement. The few doctors that have policies and need to keep the coverage are just considering to keep the plan frozen and pay the annual admin fees. Technically the practice will be in existence for the next 5 years. The face amount is appx $800,000 and the csv $311,239

I agree life insurance has no business being in a qualified plan. You can earn more using other products. My dad always said that and he was a life agent.

When I was in the law firm's Plan, I invested in the whole life insurance for a while. I was a single mother at the time and the life insurance option allowed me to leverage my Plan account balance. I invested say $1200 a year in a life insurance policy that had a death benefit of say $200,000. In the event of my death, that investment was more beneficial to my child than the $1200 staying in the Plan. I did cash it in once he went to college (12 years ago) and invested the proceeds in the other Plan options.

YMMV

you would have done better if u just purchased term outside the plan although 1200 a year isnt a big deal. in these cases being disucssed, we are talking about a lot more per year and keeping money within whole life within a qualified plan means at retirement you need to come up with a chunk of change to keep the insurance, find some creative way to keep and pay for it in a plan that can hold it. or be forced to surrender it. whole life is a mistake if you dont need or desire a permanent death benefit. you may have felt you wanted a permanent death benefit at the time you purchased it which is fine but if you didnt then it isnt the correct decision for most people. Additionally if you had been fired (which is probably a real concern now a days with economy more so than usual) you are forced into a situation where you now dont have a job and either need to buy it out or surrender it. For many that is a surrender for a loss.

i should add that if this was done prior to 2005 then the IRS was less clear about fair market values of life insurance and you likely could have purchased the insurance out of the plan for a "good deal". Now a days that is less likely to fly.

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Another option is for the plan to borrow a percentage of the cash value and then have the participant buy the policy for the lower cash value amount.

Assume for the minute that the cash value and the fair market value are exactly the same.

If the cash value is 30,000, the plan could borrow $27,000 (for example) and then the participant buy the policy for #3,000. The $27,000 would stay in the plan with the rest of the participant's investments and be handled like any other cash.

Bill, forgive my ignorance in this area - I am not real familiar with life insurance, so would appreciate your insight. Do you have cites that would back up this option? How would this transaction be taxed - what value is used? It seems like the DOL uses one amount for fair market value, and the IRS uses something very different (like that has never happened before!). :o

Hard to summarize the bizarre insurance part, but here is a very good article.

http://documents.jdsupra.com/29f2aeae-4b95...36082865956.pdf

Excellent article - thanks so much!

I agree. That article is a keeper. Thanks for the link.

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