Quick answer: Split-dollar life insurance is an arrangement — governed by a written agreement — where an employer and employee jointly participate in a permanent life insurance policy, splitting the costs, cash value, and death benefit according to negotiated terms. It is primarily used as an executive benefit: the employer funds most or all premiums while the executive's beneficiaries receive a death benefit, and the employer recovers its contributions from the policy's cash value or death proceeds.
Two Regimes: Economic Benefit vs. Loan
IRS regulations issued in 2003 created two tax treatments. Under the economic benefit regime (employer-owned policy), the employee is taxed annually on the cost of pure life insurance protection provided — calculated using IRS Table 2001 rates. The employer owns the policy and cash value; the employee's beneficiary receives only the "net at-risk" death benefit above cash value. Under the loan regime (employee-owned policy), the employer's premium advances are treated as below-market loans to the employee; the employee is taxed on imputed interest. Which regime applies depends on who owns the policy and how the agreement is structured.
Where Split-Dollar Is Most Useful
Split-dollar is most commonly used for estate planning with family limited partnerships or irrevocable life insurance trusts (ILITs) — a business owner's company makes premium advances to an ILIT that owns a large life policy, keeping the death benefit outside the taxable estate. It's also used as a selective executive benefit — the employer can offer it to specific employees without the broad coverage requirements of qualified plans. For business owners, split-dollar with a trust can transfer significant wealth to heirs while keeping the arrangement relatively tax-efficient. This is a complex strategy that requires coordination between a licensed insurance professional, tax attorney, and estate planning attorney.
Key Risks and Compliance Requirements
Split-dollar arrangements have been scrutinized by the IRS and must be documented with a formal written agreement before the policy is issued. The 2003 regulations are strict, and arrangements that don't comply can result in unexpected tax consequences. Additionally, when the arrangement terminates — at retirement, separation, or death — there can be significant tax implications depending on the policy's accumulated cash value and how the arrangement is unwound. Arrangements entered before the 2003 regulations have grandfather status but remain subject to evolving IRS guidance. This is not a strategy to attempt without experienced professional guidance.
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