Group Carve-Out Plan

A group carve-out plan is a type of group term life insurance designed to reward key employees beyond what is available to them through the company’s group term life insurance plan. Key employees may include those with long tenures with the company, executives, team leaders or managers. Those deemed eligible have access to potentially significant life insurance benefits that may increase in cash value over time. 

As part of a group carve-out plan, the employee retains $50,000 of ordinary group term life insurance coverage while a universal life insurance policy provides the rest. The group carve-out plan replaces the current group life insurance amount over $50,000 on the individuals the company wishes to set aside, or carve out.

Disadvantages of ordinary group term life insurance include its non-discrimination requirement, loss or reduction when the employee decides to retire or leave the company (or high expense to continue it) and imputed income costs for coverage over $50,000. The universal life policy improves the overall life insurance package in that it is portable and can create supplemental retirement income through its cash value. It is also not subject to non-discrimination rules, allowing employers to offer it only to the employees they care most about retaining, such as top executives.

For employers, a group carve-out provides the benefit of better cost efficiency, including tax-related expenditures, than through a group term plan. The employer receives a current income tax deduction for the entire premium paid for the group term life insurance and the employee-owned universal life insurance policy. The group term life insurance premium is deductible as an employee benefit, and the employer-paid portion of the universal life insurance policy premium is deductible to the employer as compensation. 

For example, before a carve-out, say an eligible key employee has $250,000 in group term life insurance coverage. Of that coverage, the federal government taxes anything above $50,000 as imputed income. In this example, the company would be taxed on $200,000, which could be a rather significant tax consequence for the company. However, after the carve-out, the employee has $50,000 in group term coverage, which is capped at that level to avoid sustaining the imputed income and the associated tax penalties. The individual life insurance policy funded by the employer provides for the additional coverage, growing in cash value over time. This benefits both the employee and employer, helping to save money in taxes and administration while offering supplementation for retirement income.