Death Benefit Only Plan FAQs

There are questions surrounding the death benefit only plan of life insurance. Life insurance is a big deal in any household. Without it, you’d have to worry about your loved ones. There are many options to choose from when it comes to buying life insurance. Our experts answer some questions revolving around this topic.

Question – How should the corporate resolution authorizing the plan and the purchase of supporting life insurance be phrased?

Answer – Part of the corporate resolution might read as follows:

RESOLVED: In order to insure itself against all financial losses and other economic detriment that the Corporation would incur in the event of a preretirement death of [name of key executive], the vice president of the Corporation is authorized to enter into a contract of [description of type of policy] life insurance with the [name of insurer] life insurance company for coverage in the amount of [$ ] insuring the following person(s).

Question – Why shouldn’t DBO payments always be made voluntarily on the employer’s part in order to avoid estate tax inclusion?

Answer – It is true that if the death benefit payments are not made under a contract or plan and are completely voluntary on the employer’s part, there should be no inclusion in the covered employee’s estate for federal estate tax purposes. Such voluntary payments are not includable in the employee’s estate, because neither the employee nor the employee’s beneficiary ever possessed the right to compel the employer to pay the benefit and the employee made no transfer of property or an interest in property.

But a plan that is completely voluntary on the employer’s part fails to achieve the “golden handcuffs” effect that is the goal of many employers (i.e., the employee who is not sure of a benefit is given no incentive to come to a business or stay with the business). Such an employee does not feel rewarded by the firm for his efforts in a way that builds loyalty toward the employer. From the employee’s viewpoint, a benefit provided at the whim of the employer provides neither peace of mind nor financial security. The mere possibility of such a benefit does not free up other dollars that the employee has discretion to use during lifetime.

Question – What happens to the interest of an employee (or his beneficiary) if the employer goes bankrupt?

Answer – Both the covered employee and his beneficiaries have only the status of an unsecured creditor. A living employee typically has no rights under a DBO plan, since there are no obligations that become fixed until and unless the employee dies while working for the employer. Beneficiaries, as unsecured creditors, have no priority claim to any employer assets, including life insurance used by the employer to finance potential obligations.8 The likelihood is that beneficiaries would take a pro-rata share of the assets that remain (if any) after any secured creditors and priority unsecured claimants have been satisfied.

Reproduced with permission.  Copyright The National Underwriter Co. Division of ALM

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