What is "Private" Split-Dollar Life Insurance?
Split-Dollar is a method of financing the acquisition of a permanent (not term) life insurance policy. To ensure maximum estate and generation-skipping transfer ("GST") tax leverage, the policy is owned by an insurance trust or other entity to avoid estate and GST taxation of the death proceeds.
In a "private" split-dollar arrangement, the insured (or spouse) and the trust obtain a life insurance policy on the insured’s and/or spouse’s life.
During the course of the split-dollar arrangement, the trust pays only the annual "term cost," also called the "PS 58 cost" (or the "PS 38 cost" for a survivorship policy) for the trust’s share of the death benefit, and the insured (or spouse) pays the remaining premium. The trust’s share, which, in the early years, is usually only a small percentage of the annual premium, is the measure of the trust’s transfer for both gift and GST tax purposes.
The insured’s (or spouse’s) estate will receive a portion of the death benefit equal to his or her premium outlay, and the trust will receive the remainder of the death benefit. Cash value is split in a similar way.
At the point in time that there is sufficient cash value in the policy, the split-dollar plan may terminate in what is known as a "roll-out." At
that time, the trust repays the insured (or spouse) for his or her premium outlay (usually by withdrawing cash from the policy), and the trust has full ownership of the policy.
Because of split-dollar’s minimum gift tax cost vs. maximum estate and GST tax savings, it can be an attractive Transfer Tax Leverage Technique for large life insurance purchases.
Several years ago, the IRS took the position in an unofficial private ruling that the annual increase in employee cash value equity under an equity split-dollar plan was subject to income and gift taxation. This ruling has been severely criticized. While not directly applicable to private split-dollar because of the absence of an employment relationship, if the Service ultimately seeks to end the favorable tax treatment of split-dollar, we may now be in a unique "window of opportunity" for implementing split-dollar plans.
We do not express any opinion on the investment, legal, or tax consequences of this plan, and you are responsible for consulting your own investment advisors, legal counsel, and accountants for all such advice.
Michael D. Weinberg is a registered representative offering securities through Lincoln Financial Advisors Corp. a broker/dealer. Investment advisory services offered through Sagemark Consulting, a division of Lincoln Financial Advisors Corp. a registered investment advisor. Insurance offered through Lincoln affiliates and other fine companies.