Most people buy a life insurance policy for themselves in order to financially support their loved ones after they die. However, it is also possible for organizations to purchase life insurance for their employees, known as dead farmer’s life insurance or company-owned life insurance.
The life insurance of dead peasants is very controversial, but many companies have this type of policy for tax or tax purposes.
What is business life insurance?
Company-owned life insurance is a special type of life insurance that employers purchase for their employees. The employer acts as the beneficiary of the policy, and when the employee dies, the employer receives the death benefit. Company-owned life insurance can be purchased for a single employee or for the entire workforce.
Company-owned life insurance was originally designed to help companies stay afloat financially after the death of senior executives. Today, companies buy company-owned life insurance to fund employee benefit plans, such as unqualified executive health plans and deferred compensation plans. There are several tax advantages, as cash value growth and death benefit payments are not factored into annual income.
There are two different types of business-owned life insurance: key person and split dollar:
- Key person life insurance: Key person life insurance specifically protects executives and decision makers if their death would cause financial hardship for the employer. This type of cover is available in a term or permanent life insurance policy.
- Split dollar life insurance: Split dollar life insurance allows the employer and employee to share the cash value payment of the policy. Typically, the employer pays the premiums and shares the death benefit with the employee’s relatives after death.
Business-owned life insurance is not the same as group life insurance, which is offered to employees as part of their benefits. In most group life insurance policies, the employee pays the premiums and chooses their beneficiaries to receive the full death benefit.
Why is the dead peasant life insurance called?
Company-owned life insurance is commonly referred to as dead farmer’s life insurance because of its historical intentions. In the 1980s, many large companies began to purchase company-owned life insurance for low-wage workers without telling them.
Their intention was not just to profit from the death of employees, but this move was seen as controversial as companies could secretly earn millions from employee death benefits and the growth in cash value of policies.
As a result, the name peasant death insurance was given to life insurance owned by companies in reference to a novel called Dead Souls by Nikolai Gogol. The main character buys dead serfs from a landowner in the book and uses them to secure a high-value loan.
What are the regulations against life insurance for dead peasants?
Despite the controversy, life insurance for dead peasants is legal but highly regulated. In 2006, the Internal Revenue Service (IRS) instituted the Pension Protection Act, which created a set of strict guidelines that made it more difficult for companies to operate their employees with a life insurance policy owned by the ‘business.
The IRS guidelines essentially prohibited companies from purchasing life insurance policies for their employees without their consent, regardless of the number of employees in the company. For a business to purchase a business-owned life insurance policy, the following rules apply:
- The company must notify the employee of their intention to purchase the policy and obtain their written consent.
- Companies are only allowed to write policies for the top 35% of their employees.
- Employees are allowed to refuse to participate in politics and employers cannot take any action against them.
- Companies cannot deduct certain expenses related to the policy taxable income unless the covered employee did not work there during the 12 months preceding his death. Prior to 2006, employers could purchase policies that allowed death benefits to be collected long after a person had terminated employment.
Frequently Asked Questions
Why Do Businesses Buy Business Owned Life Insurance Policies?
There are several reasons why companies buy life insurance policies held by companies. On the one hand, it provides an additional source of tax-free income. It also helps fund employee benefits and covers the costs of hiring after an employee dies.
Do employees’ family members receive a death benefit with a company-owned policy?
It depends. In the case of split dollar life insurance, the employer usually shares the death benefit with the family members of the employees. However, it may not be an equal 50/50 split. With a key person life insurance policy, the employer usually keeps all of the death benefit.
Do employees have to pay for company-owned life insurance?
No, employees do not have to pay for company-owned life insurance. The employer pays the monthly premiums and has full control over the policy.
How do I know which life insurance policy is right for me?
There are many options when it comes to life insurance. A good way to approach it is to research the different life insurance options available then speak to a licensed insurance agent before purchasing.