The Nondiscrimination Rules that Every Group Life Insurance Plan Must Meet

To satisfy nondiscrimination rules, a group insurance plan must not discriminate in favor of key employees in terms of eligibility to participate; and benefits provided.

To meet eligibility nondiscrimination rules, a plan must meet at least one of the following three tests:

  1. the plan benefits 70 percent or more of all of the employer’s employees; or
  2. at least 85 percent of plan participants are not key employees; or
  3. the plan benefits employees under an employer-specified classification that is approved by the IRS as nondiscriminatory.

To meet benefit nondiscrimination rules, a plan must provide all participants with benefits at least as great as those provided to key employees. It is permissible, under this rule, to base benefits on a uniform percentage of compensation.

If a plan discriminates in favor of key employees, either as to eligibility or with respect to the kind or amount of benefits, the cost of the entire amount of life insurance coverage becomes taxable to key employees. Thus, the exclusion for the cost of the first $50,000 of coverage is lost.

If a plan is discriminatory, key employees (and only key employees) must include as taxable income the higher of: (a) the actual cost; or (b) the Table I cost of all insurance provided on their behalf.

A key employee is defined as a person who, during the plan year or any one of the four preceding plan years, was:

  • an officer whose compensation exceeds a certain limitation; or
  • an employee owning both more than a ½ percent interest and one of the ten largest interests in the employer; or
  • a more-than-5 percent owner of the employer firm; or
  • a more-than-1 percent owner of the employer receiving compensation of $150,000 or more.

If a person is a key employee at retirement, that person remains a key employee indefinitely.

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

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