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Tax Day is just around the corner. Which means there’s no better time than now to discuss tax savings strategies with the business owners you work with. At Advisors Resource we strive to always help you help your clients make smart financial decisions. So, we put together a list of our Top 3 Tax Strategies for Business Owners utilizing life insurance.

Business owners might think of life insurance as a tool just to protect their family, but life insurance can serve more purposes than just basic death benefit protection. Life insurance is a tax-deferred accumulation vehicle that (if properly structured) can provide business owners with options to mitigate their tax burden while rewarding themselves and/or their key employees. Our top 3 strategies for 2022 include:

  1. Loan Regime Split Dollar
  2. Executive Bonus
  3. R-Squared

Get all the details for each of these strategies below:

1. Loan Regime Split Dollar

Under a split dollar arrangement, an organization assists an employee in acquiring a life insurance policy that is owned by the employee. The business owner/employer arranges a loan agreement between the employee and the business, and the employee uses these borrowed funds to pay the required premiums. The employee then pledges the policy as collateral against the borrowed funds. Any excess death benefit over the loaned amount is directed to the employee’s selected beneficiary.

This plan is advantageous for the business owner because they can provide an incentive to specific employees without removing value from the organization. The loaned-out amount remains on the balance sheet as an asset of the company. Upon the death of the employee, the organization recaptures the entire amount through the life insurance death benefit, which is distributed tax-free. The terms of the loan can be drafted in such a way that the outstanding amount can become due if certain vesting requirements aren’t met. If the employee doesn’t meet the vesting requirements in the agreement, the company can call the loan, creating a true “golden-handcuff” for the employer.

However, in most of the split dollar cases we have put together, the business owner set up a life insurance policy on themselves, rather than an employee. In this scenario the business owner can leverage their corporate tax rate to fund the life insurance policy. Meaning that the money they put into the policy will be taxed at the lower corporate tax rate, rather than the owners personal tax rate.

Schedule a Time to Chat with us about Split Dollar

2. Executive Bonus

In Internal Revenue Code Section 162, the IRS states that an employer may deduct ordinary and necessary business expenses like salary and other compensation such as benefits. One non-qualified plan your business owner clients may utilize is called an executive bonus plan.

An Executive Bonus Plan utilizes permanent, cash value life insurance and was created as a strategy for business owners to reward themselves and their key employees with a tax-advantaged retirement program. The advantage for the business owner in this strategy is the executive bonus plan counts as salary for the executive. That allows the employer to reward the executive while claiming the bonus as a deduction on their business taxes for premiums paid into the policy. Other benefits to the business owner include:

  • The plan requires no administration costs, IRS approval, or complicated setup.
  • It provides a powerful means to attract, motivate, and retain quality employees.
  • The plan may be provided on a selective basis, allowing the employer to choose specific employees to participate.
  • The benefit amounts may be varied among participants.

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3. R-Squared

In short, R-Squared is an enhanced, turn-key premium financing strategy. Premium Financing allows the business owner to leverage other people’s money in order to maximize their retirement savings.

Many business owners can utilize life insurance to address legacy planning, business continuation, and tax issues. However, many business owners find themselves in a cash-flow deficit while they still need liquid funds for their business. For them to continue to grow and protect their wealth, they need to take advantage of leverage. By taking advantage of the low cost of capital, they can optimize their own cash flow while still securing cash value life insurance to utilize as a tax-deferred cash accumulation vehicle.

Where R-Squared comes into play is that it is structured so that the financial commitment is even lower than traditional financing programs. This is because R-Squared utilizes a trust structure to pool multiple premium financing loans together. At the same time, it offers:

  • No Additional Collateral - Traditional premium financing arrangements typically have an additional collateral requirement. R-Squared is designed to have NO additional collateral, meaning that individuals are only risking the money they have paid personally.
  • Retirement Supplementation - R-Squared utilizes cash value life insurance, which allows the business owner to take tax-free loans from the policy as a supplemental source of income during their retirement.
  • Higher Internal Rate of Return – With their level of income, business owners may find themselves not able to save enough money with traditional qualified plans to maintain their standard of living throughout retirement. With R-squared, the participant’s contributions are leveraged 2:1 using bank financing, allowing them to accumulate more cash than they normally could.

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Next Steps

These strategies not only help the business owner to attract and retain employees with cost-effective benefit plans, but they also give the business owner access to tax-advantaged cash accumulation. If you would like to chat with our team about putting together any of these strategies, follow the link below:

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Post by Travis Pence
April 1, 2022