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DEDUCT IT!Tax-Deductible Life Insurance Strategies for Businesses
July 2010MKTG-OC-912 Insurance Professional Use Only. Not for Use with the Public.
Many Business Owners Face Issues that May Threaten the Future of Their Business or Family:
Retirement planningEstate planningProperty & casualty insuranceEmployee benefitsPost-retirement medical expenses
2 of 35Insurance Professional Use Only. Not for Use with the Public.
Deductions Can Be Difficult to Find for Business Owners
Not Available:Employer Owned Life Insurance
IRC Section 264(a)Nonqualified deferred compensation
May Not Make Financial Sense
Executive bonus arrangements
3 of 35Insurance Professional Use Only. Not for Use with the Public.
Current income tax deductions may be available for certain strategies…
Keep in mind:Strategy must fit the needTax deduction must not be the primary motivation for the sale
4 of 35Insurance Professional Use Only. Not for Use with the Public.
Captive Insurance
Companies
Qualified Plans
- Defined Benefit -Defined Contribution
Permanent Benefit
Section 79 Plans
Executive Bonus
Arrangements
419(e)Plans
What Strategies MayStill Provide a CurrentTax-Deduction?
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Deduct It! BrochureHelps You Explore the Available Strategies with a Client
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Case Study #1
• Jane Andrews• Age 52• Married with 3 children
• Owner of Andrews’ Fruits• Small fruit & vegetable wholesaler• C-Corporation• 10 employees
• 8 of which are full time
7 of 35Insurance Professional Use Only. Not for Use with the Public.
What Jane Currently Has
• 401(k) Profit Sharing Plan• Allows employee elective deferrals• Company profit sharing component
• 10 Year Term Life Insurance Policy• Purchased 6 years ago
• Zeros Out C-Corporation Every Year
8 of 35Insurance Professional Use Only. Not for Use with the Public.
What Jane Needs
• Additional Life Insurance Protection
• 10 year term doesn’t cover her needs• Loss of Jane’s income puts family in
financial jeopardy
• Supplemental Retirement Income• 401(k) profit sharing plan is not enough• Medical expenses could deteriorate Jane’s
retirement nest egg
9 of 35Insurance Professional Use Only. Not for Use with the Public.
What Jane Would Like
• Current Income Tax deduction for Any Strategy Implemented
• Retire At Age 65
• No current successor in line
• Something Primarily for Her Benefit
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Possible Strategies
Section 79 Plans
Qualified Combo Plan
Non-Qualified Deferred
Compensation
Executive Bonus
419(e)Plans
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No clear succession plan for future of the business
Creditor risk? Not currently tax-
deductible
Already zeroing-out the C-Corporation
Does not reduce current taxable income
419(e)Plans
Section 79 Plans
Qualified Combo Plan
Non-Qualified Deferred
Compensation
Executive Bonus
Options Offthe Table
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* Please note that all of these strategies require the use of a qualified third-party administrator.
Section 79 Plans
Qualified Combo Plan
419(e)Plans
Viable OptionsRemaining*
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The Qualified Combo PlanMeeting the savings needs of business owners and employees
by combining the use of a Defined Benefit Plan with a 401(k) Profit-Sharing Plan
Defined Benefit Plan
401(k) Profit-Sharing Plan
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Qualified Combo Plan: The Business Owner’s Secret to Retirement Savings
Third Party Administrator (TPA) determines that Jane is a prime candidate for Qualified Combo PlanTPA cross-tests contributions to 401(k) profit-sharing plan on a benefits basis
The majority of her employees are at least 10 years youngerJane is already contributing to the profit-sharing plan
15 of 35Insurance Professional Use Only. Not for Use with the Public.
Why The Qualified Combo Plan?
Jane can …Effectively limit the split-funded defined benefit plan for herselfAdd:
Up to $100,000 - $200,000 annually on a tax-deductible, tax-deferred basisLife insurance
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Internal Revenue Code Section 79
Tax rules regarding group term insuranceProvides requirements for either a master policy or individual policies to qualify as “group term life insurance”Allows corporation to establish group term plan that provides permanent benefits as well as group term benefits*
* Please consult with your employee benefits legal counsel as to whether this is an employee benefit plan under the Employee Retirement Income Security Act of 1974 (ERISA) and if so, whether any additional requirements are necessary to comply with ERISA.
17 of 35Insurance Professional Use Only. Not for Use with the Public.
Permanent Benefit Section 79 PlanPremium payments are generallyfully deductible to the corporation*
Employees must pay taxes on the permanent cost of the policy as determined by the deemed death benefit formula**
Most employees don’t elect permanent benefits Employees also taxed on cost of death benefit protection in excess of $50,000
*Assuming it qualifies as an ordinary and necessary business expense under IRC Section 162.** Taxable income to participants in a Sec. 79 Permanent Benefit plan is comprised of two parts: (1) the life insurance benefit; and (2) the permanent benefit.
Calculation of taxable income is not performed by Pacific Life, and is not a part of any sales material or illustration prepared by Pacific Life. Taxable income calculations are typically performed by independent third party administrators based on their understanding of the Sec. 79 regulations. Pacific Life makes no representation as to the appropriateness of these taxable income calculations. You should obtain whatever advice you deem necessary and appropriate from your independent tax and legal counsel as to the reasonableness of those calculations performed by such third parties.
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Why a Permanent Benefit Section 79 Plan?Table I cost plus permanent benefit cost may be substantially less than the full premiumFirst $50,000 of death benefit may not result in any additional costDeath Benefit protection
Portable death benefitPost-retirement death benefit
Tax-free loans and withdrawals from the life insurance policy’s cash value for retirement income*
* Tax-free income assumes, among other things: (1) withdrawals do not exceed tax basis (generally, premiums paid less prior withdrawals); (2) policy remains in force until death; (3) withdrawals taken during the first 15 policy years do not occur at the time of, or during the two years prior to, any reduction in benefits; and (4) the policy does not become a modified endowment contract. See IRC Sections 7702(f)(7)(B), 7702A. Any policy withdrawals, loans and loan interest will reduce policy values and may reduce benefits.
19 of 35Insurance Professional Use Only. Not for Use with the Public.
419(e) Plans
A welfare benefit planMust provide benefits other than retirement income
Benefits provided usually include:Pre-retirement death benefit protectionPost-retirement medical expense reimbursement
Post-retirement benefits must be offered on a non-discriminatory basis
20 of 35Insurance Professional Use Only. Not for Use with the Public.
Adding Life Insurance To a 419(e) Plan
May be used to provide pre-retirement death benefit protectionMay be used as a sinking fund for post-retirement medical expenses
Many 419(e) plans use a taxable trustLife insurance cash value may provided tax-deferred growth
21 of 35Insurance Professional Use Only. Not for Use with the Public.
Why a 419(e) Plan?
Provides pre-retirement death benefit protection on a pre-tax basis*
Does not provide retirement income, butMedical expenses are a pressing concern for many
Including long-term care419(e) plans can keep retirement savings from being diminished by medical expenses
* Please note that business is not permitted to take a deduction for contributions to the 419(e) plan to the extent those contributions pertain to current life insurance benefits.
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Working with Jane
All 3 strategies are viable optionsCould implement just one, or all 3
All 3 strategies provide:Life insurance death benefit protectionPotential retirement savings
419(e) plan by funding for potential medical expenses
Current income tax-deduction
It is up to Jane’s tax and legal advisors to determine which strategy is implemented
Section 79 Plans
Qualified Combo
Plan
419(e)Plans
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Case Study #2
• Mark House• Married with 3 children
• Net Worth: Over $30 Million
• Owner of House Trucking• Large intra-state trucking operation
• Split Into Multiple Entities (Creditor Protection)• 15 current entities• Mainly S-Corporations & LLCs
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What Mark Needs
•Additional Property and Casualty Insurance
• Current insurance policies do not cover all potential liability
• Gaps in coverage threaten future of business
• Estate Tax Liquidity*
• Largest asset is his business interests• Death after 2010 could subject estate to substantial estate taxes*
• May be forced to sell business interests at a discount*As of January 1, 2010, the federal estate tax is repealed until December 31, 2010. Also, over the same time period, the rules regarding step-up in basis for property
transferred at death were replaced with a modified carryover basis at death rule. Congress continues to consider legislation that, if passed, may change current federal estate tax law. Please consult with your tax and legal advisors as to what effect the repeal of federal estate taxes in 2010 and their reinstatement in 2011, or any new federal estate tax legislation, may have on your estate plans.
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What Mark Would Like
• Potential Control of Property and Casualty Insurance
• Reduced Gift-Tax Cost for Estate Tax Liquidity Need
• Current Income Tax-Deduction
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Captive Insurance Companies
A small property and casualty insurance company
Formed as a C-CorporationGenerally formed to provide coverage to a single parent
Must be at least 12 related partiesCoverage that is either
Not available through traditional property andcasualty insurance, orCoverage that the business would traditionally self-insure
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Captive Taxation
Contributions to the captive are tax-deductiblePremium income of less than $1.2 million is tax-free to the captive*
Must elect and qualify for 831(b) treatment every year
Growth inside of the captive is taxable at corporate tax rates
*IRC Section 831(b)
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Captive Insurance Companies & Estate PlanningCaptive can be used as a source of funds to provide estate tax liquidity
Generally done through a split dollar arrangement with an Irrevocable Life Insurance Trust (ILIT)
Economic benefit or loan regime
Captive pays the premiums and is collaterally assigned the cash value
ILIT will pay the Reportable Economic Benefit (REB) or loan interest to the captive
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Planning for Mark
Establish a captive to provide coverage for House Trucking
Captive could be owned by:MarkMark’s childrenILIT created by Mark
Create an ILIT to purchase the life insurance for estate liquidity
Could be single life or survivorship life insuranceDraft split dollar agreement between captiveand ILIT
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Captive Insurance Company
Diagram
HouseTrucking
LifeInsurance
Irrevocable Life Insurance
Trust (ILIT)
Property & Casualty Premiums
Collateral AssignmentPremiums
MarkHouse
REB
Death Benefit
Gifts
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Working with Mark
Captive insurance companiesExtremely complexRequire coordination of Mark’s
Tax and legal advisors Qualified TPA
If structured properly, captive insurance company may
Meet property, casualty and estate planning needsCreate a current income tax-deduction
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Deduct It!Resources
• Client Brochure• 419(e) Case Study• Captive Case Study • Client Profile• ADU Casts & ADU Ideas CD
33 of 35Insurance Professional Use Only. Not for Use with the Public.
Investment and Insurance Products: Not a Deposit – Not FDIC Insured – Not Insured by any Federal Government Agency – No Bank Guarantee – May Lose Value
Pacific Life Insurance CompanyNewport Beach, CA
(800) 800-7681 • www.PacificLife.com
Pacific Life & Annuity CompanyNewport Beach, CA
(888) 595-6996 • www.PacificLifeandAnnuity.com
34 of 35Insurance Professional Use Only. Not for Use with the Public.MKTG-OC-912
This material is not intended to be used, nor can it be used by any taxpayer, for the purpose of avoiding U.S. federal, state or local tax penalties. This material is written to support the promotion or marketing of the transaction(s) or matter(s) addressed by this material. Pacific Life, their distributors and their respective representatives do not provide tax, accounting or legal advice. Any taxpayer should seek advice based on the
taxpayer’s particular circumstances from an independent tax advisor.
Pacific Life refers to Pacific Life Insurance Company, and its affiliates, including Pacific Life & Annuity Company. Insurance products are issued by Pacific Life Insurance Company in all states except New York, and in New York by Pacific Life & Annuity Company. Product availability and features
may vary by state. Each company is solely responsible for the financial obligations accruing under the products it issues, and its product and rider guarantees are back by that company's financial strength and claims-paying ability.
Pacific Life Insurance Company’s individual life insurance products are marketed exclusively through independent third party insurance professionals, which may include bank affiliated entities. Some selling entities, which may include bank affiliated entities, may limit availability of
some optional riders based on their client’s age and other factors.
Non-guaranteed elements are not guaranteed by definition. As such, Pacific Life reserves the right to change or modify any non-guaranteed element. This right to change non-guaranteed elements is not limited to a specific time or reason.