What Are the Tax Implications of Life Insurance Premiums for Corporate Officers?

In addition to health insurance benefits, many employers offer group life insurance benefits for their salaried employees. Although this arrangement isn't nearly as popular as the standard employer-employee health insurance relationship, it's useful for older employees who might not be able to find affordable life insurance policies on their own. In most cases, the premiums that employees pay for these life insurance policies are considered to be "fringe benefits" under the complex IRS regulations that govern employee benefits. As such, their tax implications can be tricky. It's important to note that life insurance premiums are subject to different types of taxation than health insurance benefits. This is a major reason for the relative scarcity of employer-sponsored life insurance plans.

Like employer-sponsored group health insurance plans, employer-sourced life insurance plans are covered by the broad IRS regulation known as the "cafeteria plan." Although its official name is Section 125, this framework is typically referenced by its colloquial name. The cafeteria plan dictates the amount and type of insurance coverage that employers may provide without incurring tax liabilities for themselves or their employees.

One of the cafeteria plan's most important clauses concerns the taxation of payroll-deducted health insurance premiums. Under the terms of the cafeteria plan, any health insurance premiums that are deducted from an employee's gross income are not subject to income tax withholding. Accordingly, these deductions are known as "pre-tax" premiums. There's no limit to the potential size of an employee's pre-tax premium deduction.

Life insurance premiums may also be subtracted from an employee's salary or wages on a pre-tax basis. However, the IRS imposes a strict cap on the death benefit that an employer-sponsored life insurance plan can carry without incurring a tax liability. Currently, this cap is set at $50,000. In other words, an employee's life insurance contributions are taxed on a two-tiered scale. Premiums that apply to the first $50,000 of a policy's coverage are not subject to withholding tax. Any contributions that apply to additional coverage are taxed at regular rates. In practice, this encourages many employers to cap the death benefits on their group life insurance policies at $50,000. This applies to corporate officers and regular employees alike.

It's important to note that employee premiums for both health and life insurance are subject to Medicare and Social Security taxes. Unlike income withholding taxes, these types of taxes are deducted from employees' gross pay and can't be offset by a tax benefit.

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