Quick Answer: An executive bonus plan (also called a Section 162 plan) lets business owners reward key employees with life insurance benefits while taking a full tax deduction. The employee owns the policy and gets access to cash value for retirement income plus a death benefit for their family. IUL is a common funding choice due to its growth potential and premium flexibility, though whole life and other options are also used.
Finding good employees is hard. Keeping them is even harder.
The average American worker changes jobs 10 to 15 times during their career. Most won’t stay at any single company longer than five years. If you’re a business owner trying to hold onto the people who actually make your company run, you need more than a competitive salary.
That’s where executive bonus plans come in. And when you pair them with indexed universal life insurance, you’ve got a retention tool that benefits everyone involved.
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What Is an Executive Bonus Plan?
An executive bonus plan, officially known as a Section 162 plan (named after the IRS code that governs it), is a simple arrangement. The business pays a bonus to a key employee. That bonus funds a life insurance policy the employee owns.
Here’s what makes it attractive: the business gets a full tax deduction for the bonus amount, and the employee gets a valuable benefit that stays with them even if they leave the company.
Unlike qualified retirement plans, executive bonus plans are discriminatory by design. You can pick exactly who participates. Want to reward your top salesperson but not include everyone else? You can do that. There’s no requirement to offer the same benefits across the board.
This works for any business structure, whether you’re a C-Corp, S-Corp, LLC, or sole proprietor.
Why IUL Works Best for Executive Bonus Plans
You could technically fund an executive bonus plan with any type of permanent life insurance, including split-dollar life insurance arrangements or whole life policies. But indexed universal life has become a go-to choice for good reasons.
Cash value growth potential. IUL policies credit interest based on stock market index performance, like the S&P 500. When the market goes up, your cash value grows. When the market drops, you don’t lose what you’ve already gained. The floor protects you from negative returns.
Flexible premiums. Business cash flow isn’t always predictable. IUL lets you adjust premium payments when needed, which gives employers more control over their bonus amounts year to year.
Potentially tax-free retirement income. The employee can access the policy’s cash value through tax-free loans and withdrawals during retirement, if the policy is properly structured and remains in force. This creates supplemental income that doesn’t show up on their tax return.
Death benefit protection. The employee’s family receives an income-tax-free death benefit if something happens to them.
We’ve worked with business owners for over 30 years, and IUL consistently delivers the flexibility that executive compensation requires.
Single Bonus vs. Double Bonus: Which Structure Works Better?
When setting up an executive bonus plan, you’ll choose between two approaches.
Single bonus means the company pays a bonus equal to the life insurance premium. The employee receives the bonus, pays the premium, but also owes income tax on that bonus amount. They’re covering the tax out of pocket.
Double bonus (also called a gross-up bonus) means the company pays enough to cover both the premium and the employee’s tax liability. The employee has zero out-of-pocket cost. Everything is handled.
Most business owners we work with prefer the double bonus approach. It creates a cleaner benefit for the employee and removes any friction. The entire amount is still tax-deductible to the business.
How the Setup Works
The process is straightforward. The employee applies for an indexed universal life insurance policy on their own life. They’re the owner, and they name their own beneficiary.
Once approved, we help you establish the executive bonus arrangement. The business can either pay the premium directly to the insurance company or pay the bonus to the employee, who then pays the premium. Paying directly to the carrier ensures the money goes where it’s supposed to.
The bonus shows up as taxable income for the employee. The business takes its deduction. And the employee now owns a valuable policy with growing cash value they can tap later.
If you want additional retention power, you can add a controlled bonus agreement. This creates a vesting schedule for the cash value, essentially golden handcuffs that encourage the employee to stay.
Who Benefits from Executive Bonus Plans?
The employee gets:
- Life insurance protection for their family
- Cash value accumulation they can access in retirement
- A portable benefit they own outright
- Potential tax-free income when they need it most
The business gets:
- A tax-deductible way to reward key people
- Better retention of employees who drive revenue
- Flexibility to choose exactly who participates
- Stronger relationships with the people who matter most
We’ve seen executive bonus plans transform how business owners think about compensation. It’s not just another expense. It’s an investment in the people keeping your company competitive.
If you’re exploring other ways to use life insurance for business planning, deferred compensation plans offer another approach worth considering.
Frequently Asked Questions
What types of businesses can use executive bonus plans?
Any business structure qualifies. C-Corps, S-Corps, LLCs, partnerships, and sole proprietors can all establish Section 162 executive bonus plans. The key requirement is that the bonus must be considered reasonable compensation for the employee’s services.
Can business owners participate in their own executive bonus plan?
Yes, but it depends on your business structure. C-Corp owners can participate without issue. S-Corp shareholders and partners need to be more careful because the business doesn’t pay separate taxes. Talk with your tax advisor about your specific situation before setting this up.
What happens if the employee leaves the company?
The employee owns the policy outright, so they keep it. They’d simply take over premium payments themselves. If you’ve set up a controlled bonus arrangement with vesting, the employee may need to repay some benefits if they leave before the vesting period ends.
How much does an executive bonus plan cost to set up?
There’s no special setup cost for the plan itself. The main expense is the life insurance premium, which varies based on the employee’s age, health, and the coverage amount. We can run illustrations to show exactly what premiums would look like for your situation.
Is there a limit to how much can be contributed?
Unlike qualified retirement plans, executive bonus plans have no IRS contribution limits. The only requirement is that the total compensation (salary plus bonus) must be reasonable for the employee’s role and responsibilities.
Key Takeaways
- Section 162 executive bonus plans let businesses provide tax-deductible life insurance benefits to select employees
- IUL is a popular funding vehicle because it offers flexible premiums, cash value growth, and potential tax-free retirement income
- Double bonus structures eliminate out-of-pocket costs for employees by covering both premium and taxes
- Employees own the policy and keep it even if they leave, though controlled arrangements can add retention incentives
- Any business structure qualifies, making this accessible for companies of all sizes
Want to explore whether an executive bonus plan makes sense for your business? We’ll walk you through the numbers and help you design something that works. No pressure, just a conversation about your options.
Call us at 1-800-712-8519 to request a quote to get started. If you’re still researching IUL options, check out our guide to the best IUL companies to compare carriers.
