Designing Split-Dollar with Trusts and Buy-Sell Agreements for Business Owners

High-net-worth business owners often use life insurance to achieve wealth transfer, liquidity for buy-sell events, and tax-efficient succession. When you combine split-dollar life insurance with properly drafted trusts and buy-sell agreements, you can create a flexible, capital-efficient plan that funds business continuity and preserves family wealth. This article explains practical structures, pricing considerations, tax and compliance risks, and implementation steps for business owners in the United States — with a focus on major business centers such as New York City, Boston, Chicago, and San Francisco.

What is split-dollar and why pair it with trusts and buy-sell agreements?

Split-dollar is an arrangement where the costs, benefits, and ownership of a life insurance policy are shared between two parties (commonly an employer and an executive, or a closely held business and an owner’s trust). Combining split-dollar with:

• A trust (for example, an Irrevocable Life Insurance Trust—ILIT—or a Trust owned by the company) ensures proper estate treatment and creditor protection.
• A buy-sell agreement uses insurance proceeds to buy out a deceased owner’s interest and provides liquidity to the surviving owners.

Benefits of the integrated approach:

• Liquidity for buyouts without destabilizing operations.
• Estate tax mitigation when policies are structured and owned outside the decedent’s estate.
• Flexibility to allocate premium costs, cash value access, and death benefits between parties.

Common structures for business owners

1) Trust-Owned Split-Dollar (Trust = owner of record)

• The trust (often an ILIT) owns the policy.
• The business or co-owners advance premiums or loan funds to the trust under a documented split-dollar agreement.
• On the insured’s death, the trust receives proceeds to fund the buy-sell or distribute to beneficiaries outside the estate.

Pros:

• Strong estate-tax benefits if the trust is properly drafted and the policy is outside the insured’s estate.
• Creditor protection for beneficiaries.

Cons:

• Requires careful drafting to avoid imputed compensation or transfer-for-value problems.
• Trustee selection and fees must be factored into cost.

2) Corporate-Owned Split-Dollar with Buy-Sell Funding

• The company owns the policy (COLI) and uses a split-dollar arrangement to allocate premiums or benefits with a shareholder/owner trust.
• Proceeds can be paid to the company to fund the buy-sell, or loaned/assigned to a trust as required.

Pros:

• Centralized administration; easier to use corporate balance sheet for premiums.
• Clean pathway to fund company buyouts.

Cons:

• Corporate-owned policies implicate employer-owned rules and potential income inclusion for the insured’s beneficiaries unless structured correctly.
• ERISA and group-term considerations if other employees are involved.

3) Hybrid — Corporate Loan to Trust with Split-Dollar Repayment

• Company loans funds to an ILIT (documented loan) which uses those funds to pay policy premiums.
• Split-dollar agreement details repayment terms and interest (or economic benefit allocation).

Pros:

• Flexible cash flow management.
• Combines benefits of loan regime with trust ownership.

Cons:

• Loan documentation must be solid and enforceable; interest may be imputed at the Applicable Federal Rate (AFR).

For deeper legal drafting details, see Drafting Split-Dollar Agreements: Protecting Interests, Valuation, and Repayment Terms.

Key implementation steps for business owners

1. Define the objective: buy-sell liquidity, executive retention, estate tax mitigation, or a combination.
2. Choose ownership and regime (economic-benefit vs loan). The IRS treatment differs and affects imputed income and reporting.
3. Draft the trust (if applicable): ILIT provisions, Crummey notice procedures, trustee powers, and distribution language.
4. Draft the split-dollar agreement and attach to the buy-sell: premium allocation, repayment terms, valuation method at termination, and transfer restrictions.
5. Select carrier and policy type (survivorship permanent policies are common for estate planning; single-life permanent or universal life for buyouts).
6. Appoint a trustee and set trustee compensation and administrative procedures.
7. Run buy-sell mechanics and test funding scenarios (death of one owner, disability, voluntary sale).
8. Keep contemporaneous documentation and annual valuations to withstand scrutiny.

For practical executive reward scenarios, review Using Split-Dollar to Reward Key Executives and Preserve Family Wealth in Closely Held Firms.

Tax, compliance, and valuation considerations

• Economic-benefit vs loan regime: the IRS tax treatment diverges sharply depending on whether benefits are treated as an economic benefit provided to the employee or a loan. See more at Economic Benefit vs Loan Regime: How the IRS Treats Split-Dollar Arrangements Today.
• Imputed interest: loaned amounts may attract imputed interest at the IRS’s AFR; unpaid interest can create taxable income.
• Transfer-for-value rule: transferring a policy for value can reduce or eliminate tax-free death benefit treatment — careful drafting is required.
• ERISA & employer-owned policy rules: corporate-owned policies and split-dollar arrangements with employees can trigger fringe benefit or ERISA issues if not structured properly.
• Valuation upon termination or transfer: you must define the method (interpolated terminal reserve, cash surrender value, actuarial) and timing.

Sample pricing and cash-flow examples (illustrative)

Pricing depends on age, sex, underwriting class, and product type. Below are illustrative figures for U.S. markets (New York City, Boston, Chicago, San Francisco) to help model funding needs. Always obtain carrier quotes for exact pricing.

• Term example (1x reference): A 40-year-old male, non-smoker, $1,000,000 20-year level term — monthly premium roughly $80–$120 (examples consistent with published term rate aggregators such as Haven Life). See Haven Life sample rates: https://havenlife.com/rates.
• Permanent insurance funding for HNW buy-sell funding:
  • Small buyout ($1M death benefit): initial annual planned funding often $6,000–$30,000 depending on product (term-funded hybrids vs small whole life).
  • Larger buyout ($5M–$10M), age 50–60: carriers and products vary widely — expect initial annual funding from ~$50,000 to $250,000+ to create durable permanent coverage and cash value for loan/collateral purposes.
• Trustee and administration costs:
  • Professional trustee fees (banks/trust companies, e.g., Northern Trust, BNY Mellon) typically run 0.5%–1.5% of trust assets annually or flat fees of $3,000–$15,000 per year depending on complexity and location.
• Carrier and service considerations:
  • Major carriers used in HNW planning include New York Life, MassMutual, Prudential, and Northwestern Mutual — each provides corporate and trust-friendly products and high face amount underwriting services. Pricing is case-specific and subject to underwriting.

For employer/employee tax guidance on fringe benefits, consult IRS Publication 15-B: https://www.irs.gov/publications/p15b.

Comparison: Trust-Owned vs Corporate-Owned split-dollar (quick reference)

Practical issues to watch in New York, California, and Massachusetts

State-specific trust and creditor laws vary. For example:

• New York and California have robust case law and specific trust-accounting expectations — trustees may face higher reporting standards in New York City and the Bay Area.
• Sales tax, premium tax, and corporate-record procedures differ; carriers and advisors in Boston, MA and Chicago, IL often advise on local trust administration norms.
  Work with local counsel and a national carrier familiar with high-face-amount underwriting.

Providers and service pricing to consider

• Insurance carriers: New York Life, MassMutual, Prudential — known for large face amounts and bespoke planning. Get firm proposals for survivorship or universal life. Many carriers will require a case design meeting; expect underwriting turnaround of 4–12 weeks for HNW cases.
• Trustees and admin: Northern Trust, BNY Mellon Wealth Management, regional private banks in NYC and San Francisco. Expect trustee fee ranges as noted above.
• Legal and tax advisors: law firms in New York, Boston, and Chicago experienced in trusts and corporate buy-sells typically bill hourly ($400–$900+/hour) or flat-fee project pricing for buy-sell and trust documents.

Red flags and audit triggers

• Poor documentation or lack of contemporaneous split-dollar and buy-sell agreements.
• Failure to follow ILIT Crummey notice formalities (if using ILIT).
• No arm’s-length valuation method at termination.
• Failure to account for imputed interest and fringe-benefit reporting where applicable.

For anti-abuse and substantiation guidance, see Split-Dollar Anti-Abuse Considerations: Documentation and Substantiation to Withstand Scrutiny.

Conclusion: practical next steps for a business owner

• Engage an experienced insurance attorney and a tax advisor familiar with split-dollar regimes and buy-sell funding in your state (e.g., corporate centers like NYC, Boston, Chicago, or San Francisco).
• Obtain carrier pricing and an actuarial model for the specific policy type (single life vs survivorship; permanent vs hybrid).
• Draft coordinated documents: split-dollar agreement, trust (ILIT) or corporate ownership resolutions, and an updated buy-sell agreement that ties to the insurance funding plan.
• Use professional trustees for HNW plans to ensure compliance and reduce fiduciary risk.

For additional technical background on the split-dollar regimes and IRS treatment, refer to Split-Dollar Insurance Demystified: Structures, Regimes, and Tax Consequences for Owners.

Sources and further reading

• Haven Life — sample term-life rate tables and illustrations: https://havenlife.com/rates
• IRS — Employer’s Tax Guide to Fringe Benefits (Publication 15-B): https://www.irs.gov/publications/p15b