November 14, 2013
Credit Union Management magazine’s Web-only “CFO Focus” column runs the second Thursday of the month. This is also bonus coverage from “Not Just Succession Planning, Anymore” in the December issue of Credit Union Management magazine.
Split-dollar life insurance plans are popular among credit unions seeking to retain and reward key executives. The most popular format is “collateral assignment split dollar,” where the credit union pays premiums and has a right to recover those premiums from the policy’s cash value or death proceeds. The executive owns the policy and grants the credit union a lien as security for its recovery by “collaterally assigning” the policy to the credit union.
The IRS treats collateral assignment split dollar as a loan to the executive, according to Treasury Reg. § 1.7872-15. The executive must either pay interest on the loan (annually or in a lump sum at death) at the applicable federal rate, or must report the forgiven interest as attributed to income each year.
Collateral assignment split dollar accounting treatment is controlled by Emerging Issues Task Force No. 06-10 (also referred to as Topic 715, Subtopic 60 under the new Financial Accounting Standards Codification) and follows the loan characterization laid out in the legal document.
Each collateral assignment split dollar arrangement is unique and requires specific analysis to determine the correct accounting treatment. However, the general treatment of the key lifecycle events is as follows:
- Premium payments. The credit union establishes a receivable for the premiums it pays by debiting a receivable account (e.g., split-dollar loan receivable) and crediting cash.
- Loan interest. Depending on the plan design, interest on the premium loan is paid by the executive each year, reported as attributed to income to the executive each year, or compounded from year to year and paid from the policy’s death proceeds.
If the executive pays the interest each year, the credit union debits cash and credits interest income.
If the executive reports the interest in income each year, the reporting has no accounting impact for the credit union. If the credit union pays a bonus to the participant to cover the taxes on the imputed income (the forgiven interest on the loan), the bonus is reported as any other cash compensation.
If the interest accrues and compounds to be paid from the death proceeds, each year the credit union records the accrual by recognizing the income (credit split dollar loan interest income) and increasing the receivable (debit split dollar loan receivable).
- Adjustment of split-dollar loan carrying value. At least annually, the credit union adjusts the receivable so the balance sheet reflects the lesser of the split-dollar loan plus interest or the policy’s cash surrender value. This is done by debiting an adjustment account (e.g., split-dollar loan adjustment) and crediting the receivable. As the difference between loan and interest and the cash surrender value decreases, the adjustment is reversed by debiting the receivable and crediting the adjustment account.
- Loan repayment. When the loan (and interest, if applicable) are repaid from the policy’s cash value or death proceeds, the credit union debits cash and credits the receivable. If the cash received exceeds the receivable amount (e.g., key person insurance proceeds), the excess is recorded as extraordinary income.
Though not strictly an accounting issue, the credit union, if state-chartered, will need to report the collateral assignment split dollar plan on its Form 990: Return of Organization Exempt from Income Tax. Attributed income from any forgiven interest is reported in Part VII (Compensation of Officers) of the core Form 990 and on Schedule J (Compensation Information) (if applicable). Otherwise, the arrangement is noncompensatory and reported as follows:
- Form 990 Part IV Checklist of Required Schedules (“Was a loan to an officer outstanding?”) – check “yes.”
- Form 990 Part VIII Statement of Revenue Line 3 (Investment income) – report interest accrued or received; do not report interest forgiven.
- Form 990 Part X Balance Sheet Line 5 (Receivables from officers) – report lesser of cash surrender value or loan plus interest.
- Schedule L Transactions with Interested Persons, Part II Loans to and/or from Interested Persons – complete required details.
Credit unions that sponsor collateral assignment split-dollar plans must obtain specific accounting guidance from their plan provider and from their professional advisors. Doing so will assure that the advantages of offering such a plan are not dampened by incorrect tax or accounting treatment.
Jennifer Jackson is regional director and Jeff Ziliani is chief financial officer of CUES Supplier member Burns-Fazzi Brock, Charlotte, N.C.; Kirk Sherman is an attorney with Sherman & Patterson, Ltd., Maple Plain, Minn.