Extract: “Challenges of life insurance marketing – business applications” by Rizwan Ahmed Farid, 2010
Senior Executives often find themselves in financial binds despite their high income. First, our tax system puts a substantial dent into their income. Second, their desire to provide a high standard of living for their families and themselves cuts sharply into their take home pay. Third, the exorbitant costs of educating growing children squeeze the financial vice even tighter. Given this situation, the need for additional life insurance becomes apparent as they move to the top echelons of management.
The Executive Benefit Plan is a form of insurance co-ownership. It enables one party (e.g. employer) to help in providing needed life protection to another party (e.g. key-executive). The employer pays a major portion of each premium and the key executive, the insured life, pays the balance. On maturity or early death of the life insured, the employer (who contributed towards the major premium cost) will share in the proceeds of the insurance to the extent of the aggregate of his premium contributions. The balance of the policy proceeds will be payable for the benefit of the key executive or his beneficiaries. In this manner, the insured life obtains insurance coverage very little cost to him/ her-self – the major premium share being funded by his employer.
The Executive Benefits Plan is a simple arrangement between the employer and an employee, or for that matter any two parties in some close relationship. It helps finance life insurance on the life of the party who requires substantial coverage, and generally serves the interest of both parties. For the employer it ensures the retention of the key executive as well as some protection against financial loss in the event of the key executive’s pre-mature death. For the key executive it provides a means of ensuring additional financial protection for his family. Under the arrangement the employer advances or loans a major portion of the premium which may equal to the average annual increase in the policy’s cash value while the insured life contributes the remainder which may equal the difference between the total premium amount and the cash value.
The plan is primarily a method of buying life insurance, rather than a reason for buying life cover. The executive has already determined (and does not need to be convinced of)the need for life insurance but lacks the finances to fund the entire amount of premium needed to purchase sufficient insurance cover. The business on the other hand has the funds to help finance the purchase and will do so for the specific reason /desire of attracting and retaining the key executive. If the premium proportions are determined based on the cash value of the policy as mentioned earlier, the employer’s contributions can be levelled over the entire premium payment period in order to minimize the financial impact to the executive in the first few years of the policy (when cash values are low).
In the event of early death of the insured executive the employer will receive the total of his contribution to the plan while the executive’s beneficiaries will receive all proceeds in excess of the employer’s contribution. This is enforced by an endorsement on the policy to the effect that the employer will receive the contributions that it has advanced in the event of death of the insured executive.
Executive Benefits plan serves to fill the gaps in employee benefits for deferred compensations and is also used as a means of retaining key employees. Over the last fifty years, various combinations of this plan have been among the most significant forms of financial benefits designed and offered by the employers to attract experienced and knowledgeable personnel for senior position within their organizations.
The plan avoids the job-security issues associated with deferred compensations which relies on the future financial success of the employer. Under the employer loan method of the Executive Benefit plan, there comes a point in time when policy values accrue to the benefit of the executive and these values are not subject to claims of corporate creditors. The policy endorsement for sharing the policy proceeds is essentially a form of deferred compensation for an individual employee. While appropriate for providing deferred compensation, the plan also attracts superior tax and security benefits for the participating executive.
The following are the salient features of the plan:
- It is designed to allow a key person: partner, owner, executive or an important employee of a business, who needs life insurance to obtain it at a lower cost.
- The employer is able to bind the insured key person more closely to the business by providing him/her substantial assistance in the purchase of the needed insurance cover.
- The business may use the accumulated cash values of the policy to fund a special retirement or deferred compensation benefit for the executive.
- The plan provides a hedge against the executive becoming uninsurable in future.
- The plan may permit the executive to continue the insurance coverage even after his retirement.
- The plan may also be used to provide additional retirement income to participants. These plans gained popularity because they offered an economical way to provide survivor benefits, generally with favourable income tax advantages to beneficiaries.
- The plan may be installed with minimum of procedural details.
- The plan enables the business to be selective among its executives, thus ensuring the arrangement is made on a confidential basis.
- There is no cost to the business other than the cost of earnings that might have been obtained had money advanced been invested elsewhere.
- Of prime importance are the tax and financial benefits associated with Executive Benefit Plans.
- In a properly designed program, employer contributions are not currently taxable to the executive.