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Section 79 PlansCopyright 2005

The Wealth Preservation Institute139 N. Whittaker

New Buffalo, MI 49117269-469-0537

www.thewpi.org

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Typical Small Business Client

• Age 35-55, married 1-3 children.• 0-25 employees.• 1-3 owners.• Making $150,000+ a year.• Has UL or WL for:

– Death benefit – Retirement vehicle

• Policy premium is paid for with post-tax dollars.

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Ways to Buy Life Insurance• Post-tax:

– Simply cut a check from a personal bank account.• Qualified plan

– Premium is paid for with deductible dollars but the DB will be subject to estate taxes*

• VEBA– Premium is paid for by company as a deduction.– DB can pass income and estate tax free.– Client has no access to cash value except for post retirement medical*

• QPIP– Used to mitigate the 75% tax trap– Used for clients that are typically older than 60-65.

• Corporation simply pays for policy and deducts premium.– Key man for example.– If deduction taken, DB will be taxed.

• Section 79 Plan– Policy is 35-45% deductible; owned individually by the client and the staff costs

are typically minor.

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What is a “Section 79” Plan?

• A Section 79 Plan falls under the “group term life insurance” section of the IRC.

• There is really no such thing as a Section 79 Plan in the code.

• The term Section 79 Plan comes from how Section 79 in the IRC is used to benefit the owners of business through the purchase of cash value life insurance.

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IRC Definition of “Group Term Life Insurance”

• An employer may provide up to $50,000 face amount of life insurance without cost to the employees. Amounts over $50,000 must be included in the employees W-2 as additional compensation.

• Group term life can include a permanent benefit (cash value).

• Group term life is usually purchased as a real live employee benefit plan for the benefit of the lower wage employees.

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Continued

• Group term life insurance plans are employee benefit plans.

• As EE benefit plans, discrimination in how the benefits are offered becomes important (you can not discriminate).

• Most employers who offer group term health insurance have a small amount of group term life insurance included in their plans.

• A group insurance plan can be established using a single master policy, individually owned policies, or a combination of the two.

• The employer can not be the owner or beneficiary of the policies in a Section 79 Plan.

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Who can adopt a Section 79 Plan*?

• C Corporation* • Partnership but cannot include any partners

• Sub S but cannot include any 2% or greater shareholders

• No sole proprietors

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Cash Value Life Insurance

• Under Treasury Regulation 1.79-1, the term portion of a life insurance policy that includes a permanent benefit can qualify as group terminsurance.

• The regulations define a permanent benefit as an economic value extending beyond one policy year, such as a cash surrender value.

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$50,000 in Term Life

• An employer may provide employees with up to $50,000 face amount of group term life insurance protection each year without cost to the employee.

• To the extent that the $50,000 is exceeded, the cost must be included in the gross income of the employee and is reportable on the employee’s W-2 as additional compensation.

• This cost is determined under a table provided by the Service and is subject to Social Security and Medicare taxes.

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“Permanent Benefits”

• An employee insured under a policy containing permanent benefits under Section 79, may offset the amount included in the employee’s income each tax year from corporate payments by the amount the employee has paid for permanent benefits.

• The cost of the permanent insurance benefits under the policy, reduced by any contributions for such benefits by the employee, will be shown on the employee’s W2 in the section entitled “other compensation”.

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Cash Value Life

• “Old” Section 79 Plans used “springing cash value”policies because the amount an EE had to recapture as income from a cash value policy was determined by using the cash surrender value.

• However this was prior to the February 13, 2004 release by the IRS of proposed regulations issued to combat the abuses in 412(i) plans being marketed and sold. (Rev. Proc. 2004-16). New proposed regulations were issued in April of 2005 (Rev. Proc. 2005-25) to clarify 2004-16.

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Continued

• 6. The employer paid insurance premiums constitute additional compensation to the employees; the aggregate compensation payable to each employee involved, including all the costs of all fringe benefits and qualified plan contributions, must not exceed reasonable compensation for services rendered within the meaning of the Code section 162(a)(1).

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Continued

• Bottom Line– The companies that create illustrations for clients will

tell you how much is includible as income and– That will be about 55-65% of the premiums paid.

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Requirements of 1.79-1a (IRC)

• The life insurance must meet four conditions to be considered group term life insurance and qualify for special tax exclusion by employees.– 1. It must provide a general death benefit, excludable

from gross income under IRC Section 101(a). – 2. It must be provided to a group of employees as

compensation for personal services performed as an employee.

– on S corporation employees who own more than 2% of the stock or more than 2% of the voting power are treated like partners and thus insurance is not excludable.

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Continued

• 3. The insurance must be provided under a policy carried directly or indirectly by the employer. A policy meets this requirement if an employer pays any or all of the cost. The policy can be a master policy or a group of individual policies

• 4. The amount of the insurance provided to each employee must be computed under a formula that precludes individual selection of such amounts. The formula may be based on factors such as age, years of service, compensation or position.

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10 or fewer employees

• All EEs must be covered • The following EEs may be excluded:

– Employees who work part-time, meaning 20 hours or less per week or five months or less in any calendar year.

– Employees who are in a waiting period which may extend up to six months before becoming eligible for company benefits.

– Employees who continue to work after they attain age 65.

– Those that are “uninsurable.”

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Continued

• The amount of insurance provided is determined not by formula, but instead either as a uniform percentage of compensation or on the basis of coverage brackets established by the insurer.

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Uninsurable issue

• Evidence of insurability is limited to a medical questionnaire (no medical examination) completed by the employee.

• Due to the fact that no medical exam can be taken by the insurance carrier in a group with less than 10 lives, insurance carriers will commonly place a limit as to the maximum face amount of insurance or the maximum amount of premium they will accept (whichever is less). Carriers will also generally not issue anything over a Table 2 rating on this basis.

• Section 79 Plans typically can get issued up to $2,000,000 without going through the typical underwriting process.

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10 or more EE rules

• The plan must benefit at least 70% of all employees, or at least 85% of all participating employees must not be characterized as “key employees”.

• Typically must have at least 10 EEs covered.• Coverage must be provided under a formula based

on factors such as age, years of service, compensation, or position. The amount of insurance provided an employee under such a schedule must, however be computed under a formula which precludes individual selection.

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Continued

• As long as the requirements of the regulations are met, there are no limitations on the amount of insurance that may be provided for employees who are members of the eligible group, except the total compensation for each employee, including insurance premiums and other benefits, remains reasonable.

• You do not want a Section 79 plan creating so much additional income for an employee that such income becomes “unreasonable”.

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Discriminatory Benefits

• 1. The plan cannot discriminate in favor of “key”employees.

• 2. Discrimination rules are related to the amount of life insurance on each participant.

• 3. Discrimination rules are determined by a formula based on such factors as years of service, compensation and job classification.

• 4. Employees may purchase additional benefits.• 5. Employees may elect out of the plan without

affecting the plan’s discrimination status, unless they are required to contribute to the cost of the benefits other than for term life insurance.

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Why use a Section 79 Plan?

• To allow business owners to effectively write off 35-45% of their cash value life insurance policies.

• How?– When a Section 79 plan with permanent benefits is

offered to the EEs, 99%+ of them will opt for the minimum $50,000 of term coverage.

– EEs will opt out of the permanent benefits coverage. (All EEs must be offered permanent policies)

– This will create a legal discriminatory plans for the owners of small businesses.

– Owners/Key EEs will own individual cash value policies that effectively were 35-45% deductible.

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Remember the question

• Who do clients typically pay for their cash value life insurance policies?

• They cut a post tax check out of their bank account.

• Would our small business clients like to pay for that same policy and have it be 35-45% deductible?

• YES.

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Example

• Eligible EmployeesEmployee M/F DOB Salary Death BenefitDr. Green M 1/1/59 $322,659 $1,774,623EE#1 F 1/1/74 59,000 324,500EE#2 M 1/1/69 25,000 137,500EE#3 F 1/1/64 34,000 187,000EE#4 M 1/1/59 17,680 97,340

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Continued

Census and Plan Benefits

Full Permanent Insurance

Safe HarborEmployee Death Benefit Corp Premium EE Perm Cost Table I Dr. Green $1,774,623 $100,000 $63,610 $3,194EE#1 324,500 9,404 6,112 264EE#2 137,500 5,526 3,591 95EE#3 187,000 7,583 4,928 165EE#4 97,240 5,441 3,536 86

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Full Term Insurance

Employee Death Benefit Corp Premium Table IDr. Green $1,774,623 $4,308 $3,194

EE#1 324,500 258 264EE#2 137,500 165 95EE#3 187,000 278 165EE#4 97,240 311 86

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Continued

$50,000 Term

Employee Death Benefit Corp PremiumDr. Green $50,000 $177EE#1 50,000 81EE#2 50,000 102EE#3 50,000 115EE#4 50,000 177

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Sample Taxable Income Report for Dr. Green-5 Years

Employee Table I Perm. Benefit Total Taxable Actual TaxSafe Harbor Income Paid 40%

Dr. Green $3,194 $63,610 $66,804 $26,722Year 2 3,194 63,930 67,124 26,850Year 3 3,194 64,350 67,544 27,081Year 4 3,194 64,880 68,074 27,230Year 5 3,194 65,500 68,694 27,478

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Sample Contributions and Tax Free Distributions for Dr. Green Assuming 5 year Corporate Contribution of $100,000/year

Year Annual Contribution Additional W2 Net Cost inFunding by Corporation to Dr. Green 40% Bracket

1 $100,000 $100,000 $66,804 $26,7222 100,000 100,000 67,124 26,8503 100,000 100,000 67,544 27,0184 100,000 100,000 68,074 27,2305 100,000 100,000 68,694 27,478

Total Tax Paid by Dr. Green $135,296

Income Tax-Free Retirement Distribution (Age 65-84)* $91,354Total 20 Year Tax-Free Retirement Distributions $1,827,000

*Assumes crediting rate of 4.05% (from age 45 to age 51) 9% thereafter

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Summary

• If you have small business clients who would like to build wealth in a tax favorable manner through the use of life insurance where the premium is 35-45% deductible, then they should consider a Section 79 Plan using permanent life insurance.

• For more information on Section 79 Plans, please e-mail info@thewpi.org

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Overview for the Professional Designation:

CWPP™(Certified Wealth

Preservation Planner)

The Wealth Preservation Institute139 N. Whittaker

New Buffalo, MI 49117269-469-0537

www.thewpi.org

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What do Advisors want?

• To earn more money?• To have more knowledge than other advisors?• To provide better advice to clients on multiple

topics?• To be more credible than other advisors?• A team of advisors for support and back office

when dealing with “advanced” planning.• The ability to market to CPA, Attorneys and

physicians through continuing education credit.• Are these of interest to you?

– If so you are a candidate to become an APP™ or CWPP™

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The WPI and CWPP™/APP™

• What is the Wealth Preservation Institute (WPI)?– The only educational entity in the country devoted to

provide education on “advanced” planning (asset protection, tax and estate planning)

– The only entity in the country focusing on topics that apply mainly to the high income/net worth client.

– Certifying entity for the CWPP™ designation.• The CWPP™ course is a 24 hour certification

program which can be taken all online or in person.• The Asset Protection Planner designation is for

those simply want to deal with AP (12 hours).

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Marketing

• The WPI helps is certified advisors market in two several very unique ways.

• 1) The ability to become an instant author through a 340+ page “ghost book.” You can read the table of contents at http://www.thewpi.org/newindex.php?dept=51&pid=495

• The WPI will allow CWPP™ advisors to give CPE continuing education courses on a local level to CPAs and accountants.

• The WPI has a number of articles that CWPP™ advisors can use to place in local medical, accounting, legal and other business journals.

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Topics• What topics are covered in the CWPP™ course?• Asset protection (3 hours)

-Domestic-Offshore

• Deferred Compensation (4 hours)-WealthBuilder® Annuity; Traditional NQDC and the Leveraged Bonus Plan®-Qualified plans/412(i) plans-ESOPs-IRAs

• Business Planning (6 hours)-Account Receivables (A/R) Leveraging -VEBAs and 419A(f)(6) Plans -Section 79 Plans -Closely Held Insurance Companies -Corporate Structure

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Continued• Estate Planning (8 hours)

-Basic-“Advanced”- Life Insurance -Premium Financed Life Insurance - Medicaid Planning -Qualified Pension Insurance Partnership®

(Mitigating the 75% Tax Trap) -Charitable planning-Long Term Care Insurance

• Personal Finance (4 hours)-Annuities -Life Settlements -Reverse Mortgages -Private Annuity Trust

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Next Seminar?

• The next in person seminar is in NJ on the 15-17th

of November.• The course can be taken completely online.• The 2006 in person seminar schedule will be out in

December, 2005.• Keep checking back to www.thewpi.org for

posting.• Group discounts. If you have 5 or more advisors

who want to take the course, please contact The WPI for information on course discounts.

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Questions?www.thewpi.orginfo@thewpi.org269-469-0537