Life insurance in a 401k plan

Hi

I have not dealt with insurance in DC plans for many years and need a refresher.

Plan had 401k, 3% NESH and PS provisions.

Assume whole life thus up 49.99 percent cumulative limit of the contributions. They want to use all 3 provisions to maximize insurance.

Which provisions have seasoned money for future? PS definitely.

Thank you

My observation is that it's almost always a giant red flag to see insurance and 401k in the same sentence.  I suggest you search this 401(k) Forum, using the search term "insurance".

It is a giant red flag to have insurance in pension plans, period.

I will see what I can find but if anyone has comments, I welcome them.

Thank you

You might want to buy (inexpensively) Gary Lesser’s and Larry Starr’s Life Insurance Answer Book: For Qualified Plans and Estate Planning. Although the book ended with its third edition (2002), it explains the law you need.

A web search on “Life Insurance Answer Book” shows, on the first page of results, used-book sources. But look carefully at which edition.

18 hours ago, Jakyasar said:

Which provisions have seasoned money for future? PS definitely.

What is the significance of this question in this context?  49.99% is 49.99%. 

Jakyasar this is allowed and used when appropriated and prudent.  Section 1.401-1(b)(1)(i) of the Income Tax Regulations states that a qualified pension plan may
provide for the payment of incidental death benefits through insurance or otherwise. Section 1.401-1(b)(1)(ii) of the regulations states that a qualified profit-sharing plan may provide that amounts allocated to the account of a participant may be used to provide incidental life insurance for the participant.  Also, refer to Rev. Rul. 60-83.

Seasoned contributions or aged money is an exception to the incidental benefit limitation.  The incidental life insurance benefit limits do not apply if life insurance premiums are paid with “seasoned contributions”. Rev. Rul. 71-295, 1971-2 C.B. 184, and Rev. Rul. 60-83, 1960-1 C.B. 157.  This applies to profit sharing contributions only and they must have accumulated in the trust for at least two years.
. 
 

And the incidental limits don't apply because the dollars are eligible for in-service distribution. If "seasoned" dollars are used in excess of the incidental limits, it's a taxable distribution.

Also, even though it's not mentioned, rollover amounts are not "contributions" and are not included in the incidental limits test at all.

One important point you are missing, with all due respect.  The IRS has said in some of its discussions on the issue that the reason you can use seasoned money is that it constitutes a distribution (and so the entire premium is taxable).  (The concept of "seasoned money" is that it is distributable at the participant's election.)  I don't know if this is their current position ... it's been a long time since I discussed insurance in a plan with the IRS .... but i would at least warn the client that the IRS could take the position that the payment of the premium is taxable income.  In any event, you need to be sure your plan document permits seasoned money to be distributed, or this option doesn't work.

Three more things:  first, the 49.99% is applied on a cumulative basis in a DC plan.  So, you add up all contributions for all years (up to the year in which the premium is paid), take 49.99% of that, and that is the total premium that could be paid and still have an incidental death benefit.  So, you may have more "room" than you think.

Second, don't forget that, even if you take the position that the premium payment is not taxable income, remember that the term cost always is.  And, the amounts on which taxes are paid becomes a basis if the insurance policy is distributed to the participant.

Last but not least, the provision of insurance is a benefit, right, or feature, and cannot be discriminatory.  If it has not been offered to other participants, you have a problem that needs to be repaired, probably through VCP.

Best wishes for a likely big mess! 

I believe that position was a remark from an IRS representative at an ASPA conference (don't quote me but I believe it was the 2000 ASPA Annual Conference at the Grand Hyatt in DC).  The remark was not an official position of the Service and is not supported by current rules.  The issue of seasoned money constituting a distribution and the entire premium taxable is not supported due to the fact that no distribution has occurred.  The funds, although currently accessible, are not removed, distributed, from the plan trust, simply reallocated to a pre-retirement survivor benefit, life insurance.  Taxation does not occur until funds have actually been distributed from the plan trust.  [IRC 402(a)]

Totally agree with the limit of 49.99%, best practice is 35% to 40%, leaving room for the cumulative test.  An important note in design when dealing with a Profit Sharing Plan is the fact that Profit Sharing contributions are discretionary while insurance premiums are not (in most cases).  Also agree with the taxation of the economic benefit, also known as the PS58 cost, which is taxable but it does create basis which is recouped upon distribution.  And yes, subject to Benefits, Rights and Features.

Wow, thank you all for chiming in. To confirm my understanding and what I suspected, only PS can be seasoned, conceptually.

Or Rollovers into a plan or all assets after age 59 and 1/2 

With the caveat that I haven't dealt with insurance in plans in a very long time, I'd like to point out an item that is often overlooked when discussing this subject. While the taxable term cost can generally be recovered as basis when the policy is distributed, this treatment does not extend to self-employed persons. They pay the taxable term cost, indirectly, as they cannot DEDUCT this amount, but they don't get to recover it on the back end.

Possibly this has changed since I've dealt with this issue, so if potentially applicable here, you'd want to investigate that angle. Many times the purpose of issuing "maximum insurance" is for a sole prop owner to max out (or for the agent to increase commissions) so it pops up more often than you might think.

Belgarath 100% correct on the non-deductibility of the economic cost (one year term rate) the commission issue is overstated.  Professional advisors (financial planners, insurance professionals, and those on this forum, act in the best interest of their client.  While reality does tell us there are a few, the minority in all professions (stressing all professions) there are those that are in it for greed.  Keep in mind commissions first of all are one method of paying for services, and the second, commissions and other costs associated with life insurance have been disclosed (PTE 84-24) to plan fiduciaries prior to the enactment of the fee disclosure rules that we currently have.  It has been my experience the circumstances that lead to a discussion of insurance in a plan are those times when an insurance need is uncovered (along with other protection planning topics), it is a permanent need, and the individual does not have the discretionary cash flow to make the purchase with after-tax dollars.

The non-deductibility (and associated tax) is a small cost to pay for the exponential benefit of the tax free net amount at risk (face amount of the life insurance minus the cash value) to the survivors.  It has also been my experience, especially working with business owners, their Profit Sharing 401(k) Plan is the last resource they will use for retirement income.

We could start another forum just on this topic alone.  Good stuff.