Reward and retain the people who drive the business
Executive Bonus Plans
Section 162 bonus plans that reward and retain key employees with permanent life insurance they own.
Overview
An executive bonus plan, often called a Section 162 plan, is an arrangement in which an employer pays a bonus to a selected key employee, and the employee uses that bonus to pay premiums on a permanent life insurance policy that the employee owns. The employee is the policy owner, names the beneficiary, and controls any cash value; the employer's role is to fund the bonus.
The structure is named after Internal Revenue Code Section 162, which allows employers to deduct compensation that qualifies as ordinary, necessary, and reasonable. Under current federal tax law, the bonus is generally deductible to the employer to the extent it meets the reasonable compensation standard, and is generally treated as taxable wages to the employee. Tax outcomes depend on facts and circumstances and may change with the law.
Executive bonus plans are commonly used when an owner wants to reward and retain specific people, offer a benefit that is genuinely portable and owned by the employee, and keep plan administration simpler than the requirements of a full non-qualified deferred compensation arrangement. Vesting schedules and restrictive endorsements can be added to align retention with the employer's goals.
The life insurance used in these plans is subject to underwriting. Policy issuance, premium, and available coverage amount depend on the insured's health, financial, and other factors assessed by the carrier. Policy values and any death benefit are backed by the claims-paying ability of the issuing company.
How We Help
Retaining a non-owner president or general manager
Rewarding a key leader without diluting ownership and without the administrative weight of a non-qualified plan.
Selective benefits for a small executive group
Providing a meaningful benefit to three to five people without extending it company-wide.
Supplemental retirement benefit for key employees
Using a permanent policy's cash value, owned by the employee, as a potential source of supplemental retirement cash flow under current tax law.
Owner compensation in a closely held company
Where reasonable compensation analysis supports it, funding personal permanent life insurance for an owner-employee.
Golden handcuff with a restrictive endorsement
Adding a restrictive endorsement so the employee's access to cash value is limited until vesting conditions are met.
Double-bonus arrangement
Grossing up the bonus so the net after-tax amount covers the full premium the employee owes.
Transition tool for future ownership candidates
Providing a portable benefit that accompanies a longer-term path toward equity or promotion.
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Learn moreFrequently Asked Questions
What is a Section 162 executive bonus plan?
A Section 162 executive bonus plan is an arrangement in which the employer pays a bonus to a selected key employee, and the employee uses that bonus to pay premiums on a permanent life insurance policy the employee owns. The plan is named for IRC Section 162, which governs the deductibility of compensation as an ordinary and necessary business expense.
Who owns the life insurance policy in an executive bonus plan?
The key employee owns the policy. The employee names the beneficiary and controls any cash value. The employer's role is limited to paying the bonus used to fund premiums; the employer does not own the policy or its cash value in this structure.
Is the bonus tax-deductible to the employer?
Under current federal tax law, the bonus is generally deductible to the employer to the extent it qualifies as reasonable compensation that is ordinary and necessary. Deductibility depends on the facts of each case and on the law in effect at the time. Your CPA should confirm treatment for your situation.
Is the bonus taxable to the employee?
Yes. Under current federal tax law, the bonus is generally treated as taxable wages to the employee in the year paid. Employers frequently use a double-bonus or gross-up design so the net after-tax amount matches the premium the employee must pay.
How is an executive bonus plan different from a non-qualified deferred compensation plan?
An executive bonus plan pays a current bonus that the employee uses to buy an employee-owned life insurance policy, and tax is recognized currently. A non-qualified deferred compensation plan defers part of the employee's compensation to a later date, typically with more complex IRC Section 409A rules and with assets that generally remain subject to the employer's creditors. The structures serve different goals.
How is an executive bonus plan different from COLI?
In an executive bonus plan, the employee owns the policy. In corporate-owned life insurance (COLI), the employer owns the policy, pays the premiums directly, and is generally the beneficiary. The two are different structures with different ownership, tax treatment, and purposes.
Can the employer tie the benefit to continued employment?
Yes, typically through a restrictive endorsement filed with the insurance carrier that limits the employee's access to cash value until vesting conditions are met. This is how executive bonus plans are used as a retention tool. Specific designs vary and are set at policy issue.
What happens to the policy if the employee leaves?
Because the employee owns the policy, it generally goes with them when they leave. If a restrictive endorsement is in place, the employer's conditions on access to cash value may continue until vesting is satisfied or released. Exact outcomes depend on the plan documents and the endorsement terms.
Important Disclosures
- An executive bonus plan (Section 162 bonus plan) relies on current Internal Revenue Code §162 and related tax authority. Tax treatment — including the employer's deduction for the bonus and the employee's inclusion in income — is subject to current federal and state tax law and may change.
- The employer's deduction depends on the bonus qualifying as reasonable compensation for services rendered. Plan design, documentation, and coordination with the company's compensation practices should be reviewed by qualified legal and tax counsel.
- The life insurance policy used to fund the plan is subject to medical, financial, and occupational underwriting. Policy approval, features, and premium rates are not guaranteed.
- All policy guarantees are backed solely by the claims-paying ability of the issuing insurance company.
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