How to Cash Out Executive Bonus Plan
Section 162 Executive Bonus plans offer a great opportunity for employers to provide more to their key employees. The employee receives a significant amount of life insurance coverage in case anything happens to them, while also creating a tax deduction for the employer by means of bonus pay to cover the premiums on the executive bonus life insurance plan. Some employers may have the employee claim the income taxes in exchange for the executive bonus plan while others provide additional bonus money to cover those income taxes. In either case, these plans can make for great life settlement cases for several reasons, one of which is the size of the death benefit. In this article I’ll explain how to cash out your executive bonus plan.
When an employee retires or leaves the company, the ownership of the policy is typically transferred from the company to the insured, and they then become responsible for continuing the premiums if they want to keep it. And if these are executive bonus plans it typically means the death benefit is well into the millions of dollars range, which could make for a very hefty premium that often increases with age. Many of these executive bonus plans will be universal life insurance plans with cash value accounts. Depending on how much cash has accumulated, this money can either be used to continue paying the premium, or will be a determining factor on the surrender value of the policy. The cash value account can also be borrowed as a loan that does not need to be paid back, however there is interest collected on it and the balance comes out of the death benefit. This is a tricky scenario because it often causes policies to lapse when the insured can no longer keep up with the increasing cost of insurance and premiums.
In terms of selling a policy, a buyer will have to offer more than the surrender value for it to make sense to the seller for obvious reasons. Depending on the health of the insured and the cost of insurance, you may be better off selling the policy while there is still some value in it. Others may hang onto it, using the cash account to pay the premium until the account is nearly $0. When you run out of cash in the account, the next premium will be fairly large and unaffordable.
When investors consider purchasing a policy, they use actuarial data based on your medical records to determine how long they are likely going to have to pay premiums on the policy before they can collect the death benefit. If the premium on a big life insurance policy is $200k a year and the insured is likely to live another 10 years, this means the investor is going to have to pay $2MM over 10 years before they receive any return on investment in addition to the settlement buyout paid to the seller. If the death benefit is large enough and the cost of insurance is reasonable, it would warrant a sizable offer.
When policy owners consider selling their life insurance policy, or executive bonus plan in this case, most clients tend to get stuck on the death benefit amount and the next premium payment. In other words, if the death benefit is $5MM and the premium is $200k, and they receive an offer to sell it for $500k, they tend to think about the $4.5MM they are losing by selling the policy. What clients need to consider is how much more in premiums they’re likely going to have to pay to receive the $5MM. Any one of us could pass away tomorrow, but in most cases it’s not likely, so in this scenario the insured very well may need to spend another $3MM in premiums before the death benefit is paid. In simple math, an individual still might think: well if it costs $3MM to get $5MM it’s still a $2MM profit, but the difference is an individual paying that cost versus a large, institutional investment fund, and paying into it over a long period before receiving anything. For anyone to write a $200k check every year is a significant financial burden that could be reversed into an asset today. Not only will the seller have $500k in the pocket to invest in something else now, they also have the relief of having to pay $200k each year, making that $500k really look more like $700k that first year, and could put those future premium costs somewhere else as well.
The $500k settlement offer is just one scenario. If the insured is older and facing some health concerns, they may receive several million dollars on a $5MM policy in a settlement. Each case is unique, and we won’t know the true value until we test the market.
Life insurance is rarely a get-rich-quick scenario, otherwise life insurance companies would go out of business. For most of us, we don’t have a lot of control over how long we’re going to live unless we’ve been diagnosed with a terminal illness. Once insurance coverage is no longer necessary, it may be better for an individual to invest that money somewhere else where they have more control. Some prefer real estate and rental properties, while others are more comfortable investing in the market or in a safe annuity that earns interest. Having to pay a large premium on a life insurance policy for sometimes quite a bit longer than expected is not necessarily a good investment.
If you’re curious about what your executive bonus plan might be worth, we’d be happy to provide some instant feedback and test the market for no cost. We are only compensated when a settlement has been reached. Speak to a broker at 213.784.1481, or submit an appraisal request HERE