Your lead technician, office manager or practice administrator is hard to replace. A key-employee bonus plan lets the business pay for a permanent life insurance policy the employee owns, as a bonus, with a vesting schedule that rewards them for staying. It is one of the simplest executive benefits a small business can offer, and it does not require an IRS-approved plan or covering every employee.
How a key-employee bonus plan works
The business pays the premium as a bonus
Each year the business pays the policy premium as additional compensation to the employee. Because it is compensation, the business can generally deduct it, as long as the employee’s total pay is reasonable for the work.
The employee owns the policy
The employee owns the policy and names their own beneficiaries. The bonus is taxable income to the employee, so many businesses add a second bonus to cover that tax.
A vesting schedule keeps them with you
A separate written agreement can restrict the employee’s access to the policy’s cash value until they reach agreed milestones, for example five years of service. If they leave early, they may lose access to that value. The business’s attorney drafts that agreement.
Who it fits
The plan works best for key employees who are not owners of S corporations, partnerships and LLCs, and for owners or employees of C corporations. If you own a pass-through business, a bonus to yourself usually brings little benefit, because the deduction and the income flow to the same tax return. It is also a strong fit when the business wants to reward a few people without covering the whole staff.
See the cost after the deduction
Enter the premium and the tax rates your CPA gives you. The illustrator shows the total bonus, the employee’s taxes and the business’s cost before and after its deduction.
| Total bonus paid to the employee | |
|---|---|
| Of which pays the policy premium | |
| Employee’s taxes on the bonus | |
| Employee’s out-of-pocket cost | |
| Business’s cost before its deduction (bonus + payroll tax) | |
| Estimated value of the business’s deduction | |
| Business’s estimated cost after the deduction |
Cash-flow arithmetic only, using the rates entered above. This is not tax or legal advice. A bonus is deductible only as reasonable compensation, and the plan usually benefits key employees of S corporations, partnerships and LLCs who are not owners, and owners or employees of C corporations. Owners of pass-through businesses generally see little benefit for their own coverage. Any vesting or access restrictions belong in a separate written agreement drafted by the business’s attorney. Confirm the treatment with the business’s CPA. No policy values or projected returns are shown.
Frequently asked questions
What kind of policy is used?
Usually a permanent policy, such as whole life or indexed universal life, because the vesting schedule applies to the cash value. We compare options from multiple carriers and review the costs and assumptions with you and your CPA.
Can we choose which employees receive it?
Yes. Unlike a retirement plan, a bonus plan can be offered to selected employees.
What happens if the employee leaves?
The employee keeps the policy. What they can access depends on the vesting agreement; the business stops paying bonuses.
Does timing matter at year-end?
Ask your CPA how the timing of the bonus affects the year it is deducted. We can have a policy application ready in time for your year-end planning.
For CPAs
If you advise trade or professional-practice owners, see our page for CPAs.
This page is general information, not tax or legal advice. Deductibility, reasonable compensation and the vesting agreement should be reviewed by the business’s CPA and attorney.
Contact Lifeworth Insurance
Lifeworth Insurance Agency
2881 E Oakland Park Blvd, Fort Lauderdale, FL 33306
(954) 834-5433 · contact@lifeworthinsurance.com