What Is A Survivor’s Income Benefit (SIB) Plan?

1. What Is A Survivor’s Income Benefit (SIB) Plan? • A Survivor’s Income Benefit plan also called a Death Benefit Only plan (DBO) is an agreement between a corporation and an employee in which: • Corporation agrees that if the employee dies before retirement, it will pay a specified amount or amount determined by a specified formula to the employee’s spouse or another designated class of beneficiaries, such as the employee’s children • The amount may be a multiple of salary, such as two, three, or five times the average base pay in the three years preceding death

2. What Is A Survivor’s Income Benefit (SIB) Plan? • A survivor’s income benefit plan should not be linked in any way with a plan that provides any kind of post-retirement annuity benefits

3. When Is Use Of An SIB or DBO Plan Appropriate? • When additional income is desired for the family of an individual in a high estate tax bracket • When an employer would like to provide a selected employee(s) with an impressive fringe benefit over and above that provided under a qualified retirement plan

4. When Is Use Of An SIB or DBO Plan Appropriate? • When a client presently covered under a split dollar arrangement is experiencing rapidly-increasing economic costs and has run into Sarbanes-Oxley issues, or the split dollar arrangement has been terminated • The split dollar plan could be converted into a survivor’s income benefit plan, so that the security could be continued without the income tax burden

5. When Is Use Of An SIB or DBO Plan Appropriate? • When a corporation would like to provide an immediate death benefit for the family of a young employee, which could later be coupled with a retirement benefit • By changing the SIB at retirement to a nonqualified deferred compensation plan

6. How Is It Done? Example: • Corporation as an inducement to its Senior Executive makes a legally binding promise that if she should die while an executive for the corporation: • The corporation will pay her two children a benefit of three times her average annual base salary for the three years prior to death, up to a maximum of $500,000 • Payments to be made in equal annual installments over 10 years (assume $50,000 per year) • Assume the corporation is in combined 40% income tax bracket • The corporation can finance its obligation by purchasing a life insurance policy on the executive’s life • The policy would be owned and payable to the corporation

7. How Is It Done? Example (cont’d): • At executive’s death the corporation uses the proceeds to purchase $500,000 of tax-free municipal bonds • Assuming the bonds earn 8%, net income form the bonds would be $40,000 per year • Corporate cash inflow would be $40,000 • Corporate cash outflow would be $50,000 - $20,000 (40% tax deduction) = $30,000 • Corporation has a positive net inflow for the 10 years of $10,000 per year = $100,000 surplus + $56,455 interest earned at 8% • The surplus is probably enough to reimburse the company for its costs, the use of its money, and any administrative expenses it may have incurred

8. Tax Implications – Employer • The premiums that the corporation pays on the life insurance policy covering the insured employee are not deductible • Life insurance proceeds received by the corporation at the employee’s death are income tax free. Proceeds may be subject to AMT • Payments made by the corporation to the designated beneficiaries are deductible if and to the extent that • such payments represent reasonable compensation for services that the employee rendered, and • the plan serves a valid business purpose

9. Tax Implications – Employee/Beneficiary • With a properly drafted plan, none of the death benefit of an SIB plan will be includable in the covered employee’s estate • Payment of premiums by the corporate employer will not be income to an employee • IRS now agrees that when the taxpayer and his employer enter into a DBO plan, there is no taxable gift to the beneficiary, either at the time when the plan is entered into, or upon the death of the employee

10. Tax Implications – Employee/Beneficiary (cont’d) • Payments received from a corporation by beneficiaries will be treated the same as salary (deferred compensation)

11. Issues In Community Property States • Determine whether the employee’s spouse has a community property interest in the survivor’s income benefit, especially in the event of divorce, subsequent remarriage, or death • In the case of death, • many states and the IRS consider the SIB plan a property right • written consent is necessary, if a spouse has a community property interest, in order to dispose of this personal property right to a third party beneficiary

12. Issues In Community Property States • In the case of divorce, there is no definitive answer, however, • At the time of the proceeding there are no current property interests that can be divided equally between the spouses, • The possibility of payment is remote, and • The present value of the benefit is difficult to calculate