What Is an Executive Bonus Strategy?
An executive bonus strategy (sometimes called a Section 162 bonus plan) is an arrangement where a business may provide a bonus to a key employee. This bonus is typically used to fund a life insurance policy that is owned by the employee. The business may be able to deduct the bonus as a compensation expense, depending on applicable tax rules.
- The business provides a bonus to a selected key employee
- The bonus is used to pay premiums on a life insurance policy owned by the employee
- The policy may build cash value over time, depending on the product
- The employee benefits from both the death benefit and potential cash value accumulation
How Executive Bonus Planning May Help Your Business
Executive bonus strategies are commonly used by business owners who want to offer a targeted benefit to specific key people without the complexity of qualified retirement plans.
- May help reward and retain top talent with a meaningful long-term benefit
- Generally simpler to administer than qualified retirement plans
- No ERISA compliance or nondiscrimination testing typically required
- The business owner may choose which employees participate
- May help attract quality candidates in a competitive market
Potential Tax Considerations
Depending on the plan design and applicable tax law, an executive bonus arrangement may offer certain tax characteristics. The business may be able to deduct the bonus as a business expense. The employee typically reports the bonus as income. The cash value inside the life insurance policy may grow on a tax-deferred basis, depending on the product type. It is important to work with a qualified tax advisor to understand the specific implications for your situation. Tax treatment is not guaranteed and depends on individual circumstances and current law.
Common Plan Designs
Executive bonus strategies can be structured in several ways depending on business goals:
- Simple bonus arrangement — straightforward bonus used to fund a policy
- Double bonus — additional bonus provided to help cover the employee's tax liability on the bonus
- Restricted endorsement bonus arrangement (REBA) — includes vesting provisions to encourage retention
- Each approach has different features and considerations that may be worth reviewing
Building Tax-Free Wealth: Become Your Own Bank
One of the most compelling aspects of a properly structured executive bonus strategy is the potential for the policy owner to build wealth on a tax-advantaged basis. Certain types of permanent life insurance — such as indexed universal life (IUL) — may accumulate cash value over time. Depending on the product and how it is structured, the policy owner may be able to access that cash value through tax-free policy loans or withdrawals. This concept is sometimes described as "becoming your own bank." Rather than borrowing from a traditional lender, the policy owner may be able to use the accumulated cash value as a personal line of credit — for business investments, real estate opportunities, supplementing retirement income, or other financial needs — potentially without triggering a taxable event. When combined with an executive bonus arrangement, this may create a powerful planning tool: the business provides the bonus, may deduct it as a compensation expense, and the key employee or business owner builds a cash-value asset that may serve as both a death benefit and a living benefit over time.
- Cash value inside certain life insurance products may grow on a tax-deferred basis
- Policy loans may allow the owner to access funds without triggering income taxes, depending on how the policy is structured
- The policy owner may use accumulated cash value like a personal line of credit for investments, business needs, or retirement
- Properly structured policies may provide both a death benefit and a living financial resource
- This approach can help business owners explore long-term wealth-building strategies beyond traditional retirement plans
- Tax treatment depends on product type, policy structure, and current tax law — consult your tax advisor
Is an Executive Bonus Strategy Worth Reviewing?
Consider exploring this option if you have key employees you want to retain, if you are looking for compensation strategies beyond traditional benefits, if you want to explore tax-advantaged wealth-building opportunities, or if you want a relatively simple approach to providing long-term value to key people. A complimentary 15-minute review with Scott Reinhart can help you understand whether this approach — including the potential to build tax-free wealth and access cash value as your own line of credit — may be appropriate for your situation.
For educational purposes only. Products, features, premiums, benefits, limitations, and availability may vary by carrier and state. This material is not a guarantee of coverage, savings, tax treatment, or future results and is not tax, legal, or accounting advice. Consult your tax and legal advisors.