EXECUTIVE BONUS ARRANGEMENT

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1 OVERVIEW EXECUTIVE BONUS ARRANGEMENT The ideal client is a small business owner with the desire to recruit, reward and retain selected key s and has a profitable business with predictable cash flow. An executive bonus arrangement is -financed personal life intended to benefit the insured and their personal beneficiaries. Under an executive bonus or Section 162 arrangement, the pays a bonus annually to a selected either in cash or, more typically, in the form of a premium on a life policy owned by the on his or her own life. The can choose the (s) it wishes to benefit. The insured is often a executive, and may be a shareholder-. Executive bonus is generally not attractive to S corporation owners or partners, since the business is not a separate paying entity. However S corporation owners may choose to use Schedule K-1 earnings to fund an executive bonus arrangement. THE SITUATION Some key s may have unique skills and abilities that are critical to the continued success of the business. The may have concerns about keeping these s working for them, or there may be an working at a competing firm that they would like to have working for them. Most businesses, large and small, have trouble attracting and retaining the key s that help make them successful. The challenge is to create benefit programs and incentives that will motivate key s and make their an attractive place to work. THE SOLUTION One solution to attracting and retaining quality s may be an executive bonus arrangement. This arrangement: Allows the business owner to recognize and reward a key Helps to provide financial security for the s family Allows the business owner to choose the key s to be covered Can serve as a recruiting tool if competing companies don t offer similar benefits Is a method of purchasing life or disability income as an additional benefit May also be used to purchase annuities that can provide supplemental retirement benefits Gets the business a for the bonuses* Gives flexibility to custom design plans to fit the unique needs of each key *If the compensation is unreasonably high, the excess compensation is not deductable by the ; however it is able to the. HOW IT WORKS The arrangement is simple: The key purchases and owns an annuity, life or disability income policy and names a personal beneficiary The business agrees to pay the either directly to the or as a cash bonus to the - The cash bonus is reported as other compensation on the s W-2. - The annual es (including payroll as well as income es) on this amount may be funded by an additional cash bonus to the, resulting in zero net cost to the. If life is provided: - When the dies, the policy proceeds are paid to the named beneficiary - Or, when the retires, policy cash values can be used to supplement their retirement income If disability income is provided - If the becomes disabled (as defined in the policy), monthly benefits are paid to the to help meet financial obligations during the period of disability If an annuity is provided - When the retires, annuity values can be used to supplement their retirement income.

2 LIFE HOW EXECUTIVE BONUS ARRANGEMENTS WORK -free proceeds s benefi ciary bonus for es on premium policy rights on bonus DISABILITY bonus for es on premium on bonus -free income ANNUITY Taxable distributions s benefi ciary bonus for es on premium on bonus able distributions How to Implement: Employer identifies key s they would like to participate in the arrangement Attorney for the business drafts the resolutions and any other documents needed to establish plan For life or disability, the appropriate amount and time of policy is determined Employee applies for the and completes all medical and underwriting requirements 2

3 EXECUTIVE BONUS ARRANGEMENT THE BENEFITS The Employee: 1. Receives enhanced retirement and/or survivor benefits 2. Owns the policy, so it is portable upon separation from the s service 3. Has full policy owner rights and can a. Access the cash value for unexpected events b. Name and change owner and beneficiary loans or withdrawals 4. May use the policy cash values to supplement retirement income 5. Annual income liability can be met by borrowing or withdrawing policy cash values, using policy dividends (if any), or taking an additional bonus 6. Upon death, the death benefit is paid to their beneficiaries and is generally income free 7. For annuities, upon death, beneficiary can elect to receive the death benefit as a lump sum or can choose one of several annuity options that will provide regular income for a specified period or life 8. Overcomes government limitations on the amount a highly compensated can save for retirement The Employer: 1. Selects the s (does not need to include all s) they wish to include and the amount of benefits for each 2. Easy to establish 3. No approval is required 4. Administration costs are very low 5. No annual reporting requirements 6. Premiums (or cash bonuses) are -deductable to the extent s total compensation is reasonable 4. Enhances compensation package to retain, reward, and recruit key s who contribute the most to the business success CONSIDERATIONS The premium payment or bonus is considered compensation and is generally deductable under Section 162 of the Internal Revenue Code (IRC). It is subject to payroll es and withholding and must be reported on the s W-2. The must pay income on the premium payment or bonus. However, your business may provide an additional bonus to the to make up for the income- payments. This is called a Double Bonus and provides enough cash to cover both the or annuity and the s income on the bonus. This approach effectively eliminates any out-of-pocket expense for the key. The use of an Executive Bonus Arrangement is a way for an to provide life to a selected key on a deductible basis while restricting the s access to the policy cash value. Although the (or his/her trust) owns the policy, at time of policy issue, a restrictive endorsement can be placed on the policy that limits access to policy values. The arrangement acts as golden handcuffs to encourage the key to stay with the. 3

4 Sample Golden Executive Bonus Arrangement GEBA Supplement to Employment Agreement This Bonus Arrangement is entered into this day of,, by and between, (hereinafter Employer ) and (hereinafter Employee ). WHEREAS, Employer wishes to reward Employee for past service and provide additional incentives to encourage Employee to continue employment with Employer; and WHEREAS, Employer wishes to reward Employee with additional compensation in the form of bonuses. Now, therefore, in consideration of the mutual promises and covenants made herein, Employer and Employee agree to the following: 1. Premium Bonus. In addition to Employee s regular salary and fringe benefits, Employer agrees to pay an annual Bonus of $ to the Life Insurance Company on behalf of Employee in the form of an annual premium payment on a life policy ( the Policy ) insuring the life of Employee; 2. Gross Up Bonus. In addition to payment of the Premium Bonus, Employer agrees to pay an annual Gross Up Bonus to Employee [in the amount of $ ] [equal to % of the premium bonus] to cover the state and federal individual income es payable by Employee on bonuses paid under this bonus agreement. The entire amount of this Gross Up Bonus shall be withheld from Employee and deposited with the appropriate state and federal payroll authorities as payroll income withholding on behalf of Employee. Employer will bonus and withhold this Gross Up Bonus prior to the close of the calendar year in which the corresponding Premium Bonus is paid. 3. Life Insurance Policy. The Policy shall be purchased and owned by Employee. The Policy shall be solely for the benefit of Employee. Employee shall have the right to name the beneficiary of the Policy and to change the named beneficiary of the Policy at any time. However, Employee agrees not to name Employer directly or indirectly as beneficiary of the Policy nor assign any values in the Policy to the Employer. Employer shall release any restrictions, restrictive rights or endorsements it may have on the Policy within ninety (90) days after Termination of Agreement. [Optional to avoid characterization as a pension benefit plan under ERISA] Despite any restrictions placed on the Policy, Employee shall have access to any Policy values in excess of the Liquidated Damages determined under Paragraph 5 below. 4. Termination of Agreement. This agreement will terminate when the first of any of the following events occurs: a. The bankruptcy or dissolution of the Employer; b. Death of the Employee; c., d. Either party s submission of written notice, to the other party, of intent to terminate this Agreement, provided, however, if Employee provides written notice of intent to terminate this Agreement under this paragraph 4(d), the Employee shall remain responsible for the Liquidated Damages determined under Article 5 below; or e. Satisfaction of the Liquidated Damages determined under Article 5 below. 5. Liquidated Damages Bracketed language to be used when there will be Employee contributions. Alternative 1 Immediate Vesting If Employee ceases to make his/her services available to Employer prior to Termination of Agreement, Employee agrees to repay the Employer the lesser of [Employer s share of] all Premium Bonuses paid within one year of the date on which employment terminates or the cash surrender value of the policy. Alternative 2 Five Year Rolling Vesting If Employee ceases to make his/her services available to Employer prior to Termination of Agreement, Employee agrees to repay to Employer a portion [of Employer s share] of the Premium Bonuses paid within five years of the date on which employment terminates. The amount of such repayment shall be the lesser of the cash surrender value of the Policy reduced (but not below zero) by the Employee s cumulative share of the or the sum of the following amounts: For paid within one calendar year of the date of termination of employment, 100 percent [of Employer s share] shall be repaid. For paid at least one year but less than two years from such date, 80 percent [of Employer s share] shall be repaid. For paid at least two years but less than three years from such date, 60 percent [of Employer s share] shall be repaid. For paid at least three years but less than four years from such date, 40 percent [of Employer s share] shall be repaid. For paid at least four years but less than five years from such date, 20 percent [of Employer s share] shall be repaid. Alternative 3 Vesting at Retirement If Employee ceases to be employed by Employer before reaching the age of, Employee agrees to repay the lesser of [ percent of] [Employer s share of] all Premium Bonuses or the cash surrender value of the policy to Employer. The parties hereto have executed this agreement on, 4 Employer Employee

5 Prepared for: Female Non-Tobacco, 53 years old EXECUTIVE BONUS ARRANGEMENT $1,000,000 ($100,000 per year for 10 years) $623,458 $623,458 $1,623,458 $1,000,000 $630,039 Retirement Income Death Benefit Female Non-Tobacco Age 53 Initial Total Premium $43,295 Initial Death Benefi t $900,000 Tax Bracket 25% Executive s Tax Bracket 33% Pol Yr 1 53 $64,619 $48,465 $7,010 $43,295 $21,324 $0 $0 $937, $64,619 $48,465 $48,021 $43,295 $21,324 $0 $0 $978, $64,619 $48,465 $91,869 $43,295 $21,324 $0 $0 $1,021, $64,619 $48,465 $138,728 $43,295 $21,324 $0 $0 $1,067, $64,619 $48,465 $188,814 $43,295 $21,324 $0 $0 $1,117, $64,619 $48,465 $193,858 $43,295 $21,324 $0 $50,017 $50,017 $1,170, $64,619 $48,465 $193,858 $43,295 $21,324 $0 $63,193 $113,210 $1,226, $64,619 $48,465 $193,858 $43,295 $21,324 $0 $67,164 $180,374 $1,287, $64,619 $48,465 $193,858 $43,295 $21,324 $0 $71,411 $251,785 $1,352, $64,619 $48,465 $193,858 $43,295 $21,324 $0 $75,951 $327,736 $1,421, $64,619 $48,465 $193,858 $43,295 $21,324 $0 $78,664 $406,400 $1,500, $64,619 $48,465 $193,858 $43,295 $21,324 $0 $84,199 $490,599 $1,584, $64,619 $48,465 $193,858 $43,295 $21,324 $0 $90,110 $580,709 $1,674, $0 $0 $129,239 $0 $0 ($100,000) $13,491 $594,200 $1,571, $0 $0 $0 $0 $0 ($100,000) $75,239 $669,439 $1,460, $0 $0 $0 $0 $0 ($100,000) $612,388 $1,343, $0 $0 $0 $0 $0 ($100,000) $552,187 $1,218, $0 $0 $0 $0 $0 ($100,000) $488,746 $1,085, $0 $0 $0 $0 $0 ($100,000) $421,977 $943, $0 $0 $0 $0 $0 ($100,000) $351,843 $792, $0 $0 $0 $0 $0 ($100,000) $278,362 $631, $0 $0 $0 $0 $0 ($100,000) $201, 597 $460,473 TOTAL Age Bonus After Tax Executive s Repayment Obligation Annual Premium Income Tax On Bonus Executive s Net Surrender Value Increase Surrender Value Death Benefi $840,052 $630,039 $562,835 $277,217 ($900,000) 201,597 $460,473 Administrative and charges are deducted every month regardless of whether premium outlays are made. Depending upon actual policy experience, the Owner may need to increase premium payments. 460 Hillside Avenue Needham, MA T F Form /15