Executive Bonus Plan Life Insurance Strategies

A typical executive bonus is additional compensation a business provides to a selected executive or key employee. In a Section 162 arrangement, the employee may use that bonus to pay premiums on a personally owned permanent life insurance policy. The amount is not one-size-fits-all; it should reflect the company’s compensation budget, retention goals, underwriting results, and the employee’s individual tax circumstances.

The employer pays a bonus to a selected employee, and the employee generally uses it to fund a permanent life insurance policy they own. The employee controls policy ownership and beneficiary designations, while the employer may generally treat the bonus as compensation subject to applicable tax rules. Unlike qualified plans, participation can be limited to chosen executives, but qualified tax and legal advice remains important.

In a traditional Section 162 executive bonus plan, the key employee owns the policy. That ownership commonly means the employee selects beneficiaries and retains the policy if employment ends, assuming premiums continue and policy terms are met. The employer does not own the policy or its death benefit. A restricted arrangement can temporarily limit certain policy rights to support retention goals.

A Restricted Executive Bonus Arrangement, or REBA, is a Section 162 variation designed to encourage retention. The executive owns the policy, but a restrictive endorsement can limit access to cash value, loans, surrender rights, or beneficiary changes until specified milestones are achieved. The restrictions and release schedule should be clearly documented and reviewed with appropriate legal and tax professionals.

A standard single-bonus approach generally leaves the employee responsible for income taxes due on the bonus. A double-bonus, sometimes called a gross-up, provides additional compensation intended to help offset those taxes. The added amount itself may also be taxable, so calculating a gross-up requires care. An S-corporation profit-loss method may be considered in appropriate circumstances with CPA guidance.

Section 162 executive bonus plans are generally nonqualified compensation arrangements and typically do not carry the same ERISA nondiscrimination testing and contribution-limit framework as qualified retirement plans. This can allow an employer to select participants based on their importance to the business. Plan structure still matters, and employers should consult legal and tax advisors about their specific design and obligations.

Depending on the permanent policy and any active restrictions, an owner may be able to take policy loans or withdrawals from available cash value. Loans accrue interest and can reduce policy cash value and the death benefit. If a policy lapses with a loan outstanding, tax consequences may result. A REBA may restrict these rights until the agreed vesting conditions are satisfied.

With a traditional executive bonus plan, the employee generally keeps the personally owned policy after leaving and assumes responsibility for future premiums. A restricted executive bonus arrangement may maintain limits on policy rights until vesting conditions are met or may address separation under its written terms. Reviewing the endorsement, employment agreement, and policy provisions before implementation helps clarify expectations for both parties.