Section 79 plans can offer unsuspecting business owners ill-gotten benefits. However, many employers will lie to their employees to reduce their taxes and avoid paying higher premiums.
Read Part 1 on Section 79: Section 79
Section 79 Planning: Employers Ruthlessly Pitch $50,000 Term Insurance to Employees
If a company has 10 or less workers, the law prevents complete medical underwriting of any policies that are given. For these companies, group underwriting is necessary and this is a higher hazard for an insurance company.
One of the reasons Section 79 Plans are not preferred is because they force the employers to lie to workers when the plan is being implemented. There are different insurance options in the Section 79 plan but the employer will most likely try and convince employees which costs the company the least.
Non-Discrimination of Section 79 Planning
These plans are employee benefit plans and employers are not supposed to discriminate in any way in partiality of certain employees or even employers or the proprietors. Section 79 Plans are carried out so that the proprietors of the company can increase the tax deductions when they buy their own life insurance policy from which the proprietors can then borrow from during retirement in a tax free manner.
This looks like a great deal for proprietors but when we scrutinize the financial data it becomes clear that proprietors would be better paying income taxes and then using this cash to fund a quality cash value life policy rather than execute a Section 79 plan in their company.
Let�s discuss the advantages from Section 79 Plans for employees. With these plans, the owner is going to purchase a permanent insurance policy that will build cash and can be borrowed from in retirement.
The same permanent insurance policy must be offered to every worker. If the employer is honest and forthright then all of the workers would opt for the same type of permanent insurance policy. If a full permanent insurance policy was executed for the Section 79 plan then it would cost a tremendous amount of money for the employer. This is not what the employer had in mind when implementing the Section 79 plan.
Employers inform workers to opt for the $50,000 Term Insurance instead
Employees will be told in that it would be better for them to opt in (by their own choice) for the $50,000 term insurance policy rather than choose the full permanent insurance or the full term insurance.
But why would an employee forsake insurance policies that offer $100,000’s or even $1,000,000’s in death benefits for a policy offering only $50,000 in term coverage? Because workers will be told that the death benefits from these insurance policies that is greater than $50,000 will be taxed on that added benefit every year and the taxes to be paid will increase as well.
Employees believe that they will have to pay higher taxes on the full permanent/term insurance
Employers have a general meeting and inform all employees that the company will be offering the Section 79 Plan as an employee benefit. Employees are joyful at this announcement. The human resource personnel will inform employees that they can receive $50,000 of term insurance or more death benefit coverage at no additional cost. But the human resource personnel informs them that they will receive an income tax bill for this additional coverage of death benefits. Employers persuade them to accept the fact that the additional income taxes will have to come off their paychecks and will be expensive. No employee wants to pay income taxes on income they haven’t received? So employees are then given the Section 79 form to voluntarily opt out of the full (term or permanent) insurance policies and many will choose the $50,000 of term life insurance.
Full Permanent and Term Insurance Benefits
When you take a good look at the benefits of the full permanent or full term insurance data, you will see why an employee would be crazy not to choose for the full benefit. You will also see why it is so important for employers don’t wish for employees to choose the full benefit.
View the sample financial data for the $50,000 term insurance and the full permanent insurance and full term insurance policies.
What you will see is that the cost of having the employees opt for full permanent insurance policies will be $28,500 each year (calculated from Table #2 by adding the corporate premiums for Workers A to D). The cost for those opting for the $50,000 term life insurance will be only $525 a year (calculated from Table #4 by adding the corporate premiums for Workers A to D).
The following charts will also show that the taxable income for the employee with the highest amount of income is $5,772 a year for a $9,787 corporate premium (view Table #2, Worker A under column ‘Employee Recapturable (Taxable) Income’). The amount of $5,772 is not the tax. It is the additional recapturable income which is taxable. Worker A would be in around the 35% tax bracket and, therefore, Worker A’s tax bill is $2,259 a year. Would Worker A cited below pay that amount each year to have the employer fund $9,787 as a premium into a cash value life insurance policy that can be borrowed against tax free in retirement? That sounds like a good deal in terms of retirement planning from Worker A’s perspective. Keep in mind that Worker A would also have to recapture $204 of additional income for any insurance provision greater than $50,000 of the term coverage.
Eligible Workers (including the owner, Dr. Dube) for Section 79 Insurance
Table #1
| Worker | Year of Birth | Salaray | Death Benefit |
|---|---|---|---|
| Dr. Dube | 1962 | $341,659 | $1,894,566 |
| Worker A | 1976 | $62,000 | $333,500 |
| Worker B | 1968 | $28,000 | $134,500 |
| Worker C | 1965 | $36,000 | $192,000 |
| Worker D | 1958 | $19,000 | $94,000 |
Section 79 Insurance Benefit Options:
Full Permanent Insurance (Section 79 Plan Option)
Table #2
| Worker | Death Benefits | Corporate Premiums | Employee Recapturable (Taxable) Income | Additional Recaptured (Taxable) Income for Insurance over $50k of Term Coverage |
|---|---|---|---|---|
| Dr. Dube | $1,894,566 | $97,000 | $62,540 | $3,004 |
| Worker A | $333,500 | $9,787 | $5,772 | $204 |
| Worker B | $134,500 | $5,984 | $3,453 | $87 |
| Worker C | $192,000 | $7,811 | $4,788 | $157 |
| Worker D | $94,000 | $6,141 | $3,096 | $78 |
Full Term Insurance (Section 79 Plan Option)
Table #3
| Worker | Death Benefits | Corporate Premiums | Additional Recaptured (Taxable) Income for Insurance over $50k of Term Coverage |
|---|---|---|---|
| Dr. Dube | $1,894,566 | $4,668 | $3,458 |
| Worker A | $333,500 | $277 | $288 |
| Worker B | $134,500 | $187 | $85 |
| Worker C | $192,000 | $297 | $155 |
| Worker D | $94,000 | $343 | $84 |
$50,000 Term Insurance (Section 79 Plan Option)
Table #4
| Worker | Death Benefits | Corporate Premiums |
|---|---|---|
| Dr. Dube | $1,894,566 | $4,525 |
| Worker A | $333,500 | $279 |
| Worker B | $134,500 | $167 |
| Worker C | $192,000 | $303 |
| Worker D | $94,000 | $376 |
After looking at the financial sample of the Section 79 various insurance options, should a business owner get involved with these plans? Some business owners may be tempted to lie to benefit themselves and their business. Business owners may be tempted to inform employees that the $50,000 term life insurance should be voluntarily chosen and they should voluntarily opt out of the other insurance options. However, after looking at the numbers and gaining a better understanding of the Section 79 Plan, you will see that these plans are one of the most abused concepts in the insurance industry.
Call Estate Street Partners at (888) 938-5872 for more information on how you can implement the best retirement plan for your needs and perhaps fund a good cash value life policy.