Imputed Income for Group Term Life Insurance

Posted in: Employee Benefits

This alert provides summary information about an important issue you may wish to review with your payroll provider, tax or accounting department, or CPA to determine whether you need to make any adjustments to your tax withholding amounts for 2023 W-2’s.

Generally, employees are not taxed on the value of employer-provided benefits for the employee and
his or her dependents. There are important exceptions to this rule, however, where the value of certain benefits provided is considered “imputed income” to the employee and thus is included as taxable income to the employee. One such exception is for certain circumstances under which the cost of group term life insurance, group voluntary term life insurance and dependent term life insurance results in imputed income to employees.

Group Term Life Insurance

The federal tax code excludes the cost of the first $50,000 in group term life insurance coverage that an employer provides to an employee. All participants will have imputed income on premiums for group life insurance in excess of $50,000, if the policy is carried directly or indirectly by the employer. A policy is considered to be carried by the employer if:

• the employer pays any part of the premiums (this includes premiums paid on a pre-tax basis by employees); or
• the employer offers employee-paid voluntary life insurance with rates that “straddle” the Table I rates, where the rate for at least one employee’s coverage is lower than the Table I rate and the rate for at least one other employee’s coverage is higher than the Table I rate.

IRS regulations include a table of rates, known as the Table I rates, used for calculating the cost of excess group term life insurance for tax purposes:

Determining the Amount of Income to Impute
If an employer pays the premiums for all of an employee’s group life insurance coverage, determining the amount to impute is easy: subtract $50,000 from the total group term life insurance coverage in effect for the employee during the year and multiply the remaining amount of by applicable Table I rate. If the employer does not pay all the premiums, but the employee’s contributions are made on a pre-tax basis, this same calculation applies.

If the employee pays all or part of the premium for any group term life insurance coverage
(including the first $50,000) on an after-tax basis, an additional calculation is needed. After finding the Table I cost of all coverage above $50,000, as described above, deduct from that amount all of the employee’s after-tax contributions toward the coverage (including coverage under $50,000). If the result is a positive number, that is the amount to impute.

Sample Imputed Income Calculation
Sam is 42 years old and earns $38,000 annually. His employer offers a term life benefit of 3x salary, for which the employee contributes $2.50 per month on an after-tax basis towards the cost.
Sam’s life insurance benefit is $114,000. The value of the amount on which he must pay taxes is $64,000 ($114,000 – $50,000). To calculate imputed income, $64,000 is divided by $1,000 (since table I rates are per thousand), then multiplied by $0.10 (the Table I rate for a 42-year-old). The result is $6.40 per month, less Sam’s contribution of $2.50, results in imputed income of $3.90 per month, or $46.80 per year for this employee.

W-2 Reporting and FICA Taxes
As taxable income, the imputed amount must be included in the employee’s taxable income reported on Form W-2, but the employer is not required to withhold for the employee’s federal income tax liability. FICA taxes apply, however, and the employer must withhold the employee’s portion of FICA taxes. The employer must also pay its portion of FICA taxes, and remit both the employer and employee FICA amounts. For 2023, an employee will pay (a) 6.2% Social Security tax on the first $160,200 of wages, plus (b) 1.45% Medicare tax on the first $200,000 of wages, plus (c) 2.35% Medicare tax on all wages in excess of $200,000.

Voluntary Term Life Insurance

The federal tax code excludes the cost of coverage for employee-paid group voluntary life insurance coverage, if they meet all of the following requirements:
1.Employees must pay premium for the voluntary term life plan using after-tax dollars;
2.If there is a separate employer-paid group term life insurance plan, the insurance premiums and coverage must be properly allocated between the employer-paid plan and the supplemental plan; and
3.The rates do not straddle the Table I rates.

If the rates charged under the policy for all age groups are neither (a) completely at or above, nor (b) all completely at or below the corresponding Table I rates, then imputed income must be calculated and reported for those age groups with employee rates below the Table I rates.

When a plan has rates that straddle Table I rates, both the employer-paid and voluntary coverage must be included in the calculation of any affected employee’s imputed income.

Sample Imputed Income Calculation
Jane’s company offers an employer-paid basic group term life insurance benefit of $40,000. Her employer also provides an employee-paid voluntary group term life insurance benefit, of which Jane (age 36) elected an additional $80,000 of coverage. Jane’s monthly premium for the $80,000 voluntary life benefit is $6.00 ($80,000 / $1,000 = $80 x $.075 = $6.00). The employee rate for Jane’s age bracket ($.075) is below the Table I rate ($.09). Since the employee rate for at least one other age group exceeds the Table I rate, the voluntary term life plan is considered carried by the employer. As a result, the company must include both the employer-paid and voluntary term life coverage when calculating Jane’s imputed income.
Jane’s total life insurance benefit is $120,000. The value of the amount on which she must pay taxes is $70,000 ($120,000 – $50,000). To calculate imputed income, $70,000 is divided by $1,000 (since Table I rates are per thousand), then multiplied by $0.09 (the Table I rate for a 36-year-old). The result is $6.30 per month, less Jane’s contribution of $6.00, results in imputed income of $0.30 per month, or $3.60 per year for this employee.

Dependent Term Life Insurance

Some employers offer dependent term life benefits, which may be paid by the employer or by the employee. Regardless of who pays for this benefit, if the amount of coverage for dependents (spouse or children) is greater than $2,000, the cost of the coverage, less any after-tax contributions from the employee, is considered taxable as imputed income. The taxable amount is based on Table I rates. The entire amount is taxable, not just the amount that exceeds $2,000.

Sample Imputed Income Calculation
John purchased a $10,000 dependent term life benefit for his children. His monthly premium for the $10,000 benefit is $.035 / $1,000, or $0.35/month to cover all of his children, which is payroll deducted with an after-tax contribution. The Table I rate for dependents less than 25 years old is $0.50 / $1,000, or $0.50/month. The imputed income that should be reported is $0.50 – $0.35 = $0.15/month or $1.80/year.

QUESTIONS?

As always, please contact your Benefits Advisor with any questions regarding this Alert.

Disclaimer: The information provided in this bulletin does not, and is not intended to, constitute legal advice; instead, all information, content, and materials available through this bulletin are for general informational purposes only.