How Businesses Benefit from Life Insurance on Employees - Lazy Investing Way

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Monday, November 27, 2017

How Businesses Benefit from Life Insurance on Employees



We all have heard about life insurance – it is a financial product that pays out a sum of money either on the death of the insured person or after a set period for the benefit of heirs and financial aid for family members. Business owners need insurance for similar reasons: income replacement and to protect the future of the company (through Group Term or the like Insurance).

I have a written a quick footnote about this last year on how VULs can be a multi-purpose wealth planning tool (August 9, 2016). What you may not know is that it can also be used not only as a Tax Avoidance tool but also a way to hedge benefits and perhaps even make a profit.

Here are some ways businesses can utilize life insurance on employees:

* Passing on ownership of a business interest – when a business owner retires or dies, business can be affected/deteriorate quickly; with the right insurance in place, the surviving business partners will have enough capital to keep the business going or do a buy/sell agreement from heirs, protecting the wealth of the business.

* Source of Funding – The above can be done with traditional insurance policies but you can choose VULs if you want to maximize the “Time-Value-of-Money” (or depends on business partners’ agreement on cash value use); withdrawing invested funds or a policy loan is also another funding source option.

* Generating income – rather than fund the retirement of employees from profits, another way is to have a traditional insurance (paying dividends) or a VUL where the employer is a beneficiary of the policy. That can be withdrawn/surrendered when the employee retires or dies wherein the funds will be given as retirement income or the benefit is given to the employee’s family.

The above are straightforward examples on using life insurance, but it can also be taken to the extreme. I’ll stay away from all the very complicated tax and insurance laws and share examples below.

A very old Practice

This has existed in one form or another for well over 100 years; its nickname, "dead peasant" insurance originates in 19th century Russia, where feudal serfs were bought and sold as property by the rich. According to a Wall Street Journal article in early 2000s: "After the Sept. 11 terror attacks, some of the first life-insurance payouts went not to the victims' families, but to their employers."

Case-in-point: “..Mrs. Reynolds, a $21,000-a-year administrative assistant and buyer, died in 1998 at age 62. Her family received a $21,000 benefit from a life-insurance policy provided to employees by [employer]. [Employer] also received a COLI (Corporate-owned-Life-Insurance) payout of $180,000.”

Life Insurance as a Revenue Generator

Large companies can purchase Life Insurance (with riders) or the like hybrid products (insurance + investment combos), on manager or executives with consent (as an additional ‘benefit’). As the owner of these policies, a company collects tax-advantaged (some cases tax-free) death benefits upon the death of the (former) employee.

This is only paper profit and aren’t taxed until it is unlocked, just like a private policy (money poured into life insurance can grow tax-free).

As you can imagine, it is a complicated, controversial topic and practice with a history of abuse; despite strict regulations, it’s use is still rapidly growing in the U.S..

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This is for general information only and should not to be construed as investment advice.

Read WSJ reference: http://online.wsj.com/public/resources/documents/april_19.htm

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