Corporate-Owned Life Insurance: What You Need To Know

Corporate-owned life insurance (COLI) is a type of life insurance policy that a company purchases for its employees. The company is the policyholder and beneficiary, paying the premiums and receiving the death benefit upon the insured employee's death. This differs from standard life insurance policies, where the benefits typically go to family members. COLI is designed to protect businesses by insuring key employees and providing tax benefits. It can also be used to fund buy-sell agreements and offset deferred compensation costs for executives. The cash value of COLI grows tax-deferred, and death benefits are typically tax-free. However, COLI policies can be expensive and carry ongoing premium costs, making them more suitable for larger businesses with sufficient resources.

Corporate-owned life insurance (COLI)

COLI is designed to protect businesses from the financial impact of losing a key employee, such as an executive or specialist, by providing financial support to cover lost revenue, recruitment and training costs, and stabilising the company during the transition period. It can also be used to fund buy-sell agreements, offset deferred compensation costs for executives, and support future employee benefits such as retirement plans.

One of the main advantages of COLI is the tax benefits it offers. While the premiums paid by the company are generally not tax-deductible, the death benefits are typically tax-free, and the growth in the policy's cash value is tax-deferred. This can provide significant financial advantages for companies, especially when dealing with the loss of a key employee.

However, COLI also has some potential disadvantages. It can be expensive, with high upfront costs and ongoing premium payments. There may also be negative employee perception, as employees may feel uncomfortable knowing that their lives are being insured for the company's financial gain. Additionally, there are strict tax regulations and requirements that must be adhered to, and the potential for tax law changes could impact the tax advantages of COLI in the future.

COLI policies can vary, but some common types include term life insurance, whole life insurance, and universal life insurance. Term life insurance covers a specific period, usually 10, 20, or 30 years, and is often less expensive. Whole life insurance covers the insured for their entire lifetime, accumulates cash value over time, and is generally more expensive. Universal life insurance is a flexible option that allows companies to adjust premium payments and death benefits.

Key person protection

Corporate-owned life insurance (COLI) is a type of insurance policy that a company purchases on the lives of its employees. It is designed to protect the business from financial loss in the event of the death of a key employee. This type of insurance is particularly important for small businesses, where the loss of the owner or founder could be devastating for the company's future.

When a company purchases a COLI policy, it insures the life of a key employee, such as an owner, executive, or highly skilled worker. The company is the policyholder and beneficiary, paying the premiums and receiving the death benefit upon the insured employee's death. The death benefit can be used to cover expenses related to the loss of the employee, such as recruiting and training a replacement, paying off company debts, or compensating for lost revenue.

In addition to life insurance, key person insurance can also include disability coverage. This provides financial protection if the key person becomes incapacitated and can no longer work. The company receives a disability benefit, which can be used to cover the costs of finding and training a replacement or to implement other strategies to save the business.

The amount of key person insurance needed will depend on the business and the role of the key person. It is often recommended to purchase a policy that is eight to ten times the key person's salary or the monetary value of the key person to the company.

While COLI offers financial protection, businesses should also consider potential disadvantages. COLI policies can be expensive, with high upfront costs and ongoing premium payments. There may also be negative employee perception, as employees may feel uncomfortable knowing their lives are insured for the company's financial gain.

Funding buy-sell agreements

Corporate-owned life insurance (COLI) is a type of insurance policy that a company purchases for its employees. It is designed to protect the business from financial loss in the event of an employee's death. The company is the policyholder and beneficiary, paying the premiums and receiving the death benefit, which can be used to cover expenses like recruitment or lost revenue.

COLI can be structured in different ways to meet various objectives. For example, a split-dollar life insurance policy allows the company to recoup its premium outlay by naming itself as the beneficiary for the amount of the premium paid, with the remainder going to the insured employee. This type of arrangement provides liquidity to the business while also offering some benefit to the employee.

Another form of COLI is key person life insurance, which pays the company a death benefit upon the death of a key employee, executive, or owner. This type of insurance is crucial for businesses that heavily depend on a few key individuals for their success. The death benefit can help cover the costs of recruiting and training a replacement, as well as stabilising the company during the transition period.

COLI also has tax advantages. The cash value of COLI grows tax-deferred, and death benefits are typically tax-free. This makes it a valuable tool for businesses to manage excess cash in a tax-efficient manner. However, it's important to note that the taxation of COLI can be complex and may vary from state to state.

While COLI offers financial security and has its benefits, there are also potential disadvantages. COLI policies can be expensive, with high upfront costs and ongoing premium payments. The company must carefully manage the policy to avoid unexpected tax liabilities on withdrawals or loans against the cash value. Additionally, employees may perceive COLI negatively, as their lives are being insured primarily for the company's financial gain, which can decrease morale.

Tax benefits

Corporate-owned life insurance (COLI) is a type of life insurance policy that a company purchases for its employees. The company is the policyholder and beneficiary, paying the premiums and receiving the death benefit upon the insured employee's death. This is in contrast to individual life insurance, where the employee and their family are the policyholders and beneficiaries.

COLI offers several tax benefits to businesses:

Tax-Deferred Cash Value Growth

COLI policies often accumulate cash value over time, and this cash value grows tax-deferred. This means that the company does not have to pay taxes on the gains while the policy is in effect. This feature makes COLI an attractive tool for companies to manage their excess cash in a tax-efficient manner.

Tax-Free Death Benefits

Typically, the death benefit paid to the company upon the insured's death is tax-free. This provides significant financial support to the company, which is crucial for managing the financial impact of losing a key employee.

Business Expense Deductions

While the premiums paid on COLI policies are generally not tax-deductible, the tax-free death benefits and tax-deferred cash value growth make COLI an attractive option for companies aiming to optimise their financial strategy and reduce their tax burden.

Balance Sheet Improvement

The cash value of a COLI policy can be recorded as an asset on the company's balance sheet, enhancing its financial position and strengthening its financial standing.

Funding Employee Benefits

The growth in the cash value of a COLI policy can be used to fund future employee benefits, such as retirement plans. This not only benefits the company but also provides additional benefits to employees.

Balance sheet improvement

Corporate-Owned Life Insurance (COLI) is a type of life insurance policy taken out by a company on the lives of its employees. The company pays the premiums and is the primary beneficiary. The death benefit is paid out to the company, not the employee's family or other personal beneficiaries.

The cash value of a COLI policy can be recorded as an asset on the company's balance sheet, which can enhance the company's financial position. The cash surrender value of a life insurance policy is an asset that a company can control and, therefore, should be recorded on its balance sheet.

The cash value of COLI grows tax-deferred, and death benefits are typically tax-free. This tax setup, along with the ability to record the COLI policy's cash value as an asset, can strengthen a company's financial standing.

COLI policies can be expensive and carry ongoing premium costs, making them best suited for businesses with sufficient resources. The company is responsible for paying the premiums, which can be a financial burden if the company is facing cash flow issues.

The cash surrender value of corporate-owned life insurance is the amount the policyholder (the company) would receive if they chose to terminate the policy before the insured event occurs. This cash surrender value is recorded as an asset on the company's balance sheet.

COLI policies can be used to fund buy-sell agreements and offset deferred compensation costs for executives. They can also be used to support future employee benefits, such as retirement plans.

Frequently asked questions