Keyman Policies

Thanks Crest, this brings some clarity on the topical issue.

With the release of the proposals under the Tax Amendment Act and the subsequent meeting between Treasuray and ASISA on 25/11/2010, it was proposed that Key Person policies, as one of two types of company-owned policies should be defined as:
- a risk policy (as opposed to an investment/endowment type policy that builds up a cash value)
- taken out by the employer on the life of an employee
- with the purpose to cover some form of risk .... etc
Reference was thus to pure risk policies and excluded any policies which built up a cash value.

Treasury has subsequently released a draft of the 2011 Taxation Laws Amendment Bills which gives effect to most of the 2011 Budget Review tax proposals, as well as additional urgent measures. In 2011, changes were made to the taxation of long-term insurance in order to prevent executives from using keyperson plans as a means of avoiding fringe benefit tax. These changes, however, highlited the need to revise the whole system as applied to policyholders and beneficiaries.
Reasons for the changes are that the rules relating to keyperson plans are based on the assumption that employers entering into genuine key person plans desired an upfront deduction. This assumption, however, turned out to be misguided. To the extent that long-term insurance is genuinely used to protect against lost profits due to the loss of key persons, employers largely seek to obtain tax-free insurance proceeds at the expense of an upfront deduction. The tax-free nature of the proceeds is viewed as the top priority. Otherwise, employers must top-up these plans to additionally cover potential taxes to be paid.
Employers seeking false-key person plans, on the other hand, were the main drivers for the upfront deduction. The goal for this category of employers was an upfront deduction for the employer without a corresponding fringe benefit in respect of the premiums for the employee. The taxable nature of the payment proceeds was ultimately less of a concern for employers because these payment proceeds were largely intended for the benefit of the employees (or their beneficiaries).

With the draft of the Tax Laws Amendment Bill 2011, dated 2nd June 2011, it is now proposed as follows with regards to keyperson plans:
1. Plans entered into from 1 January 2012
In view of the above, taxpayers seeking an upfront deduction for keyperson policy plans will now have to opt into the regime (conforming treatment). Inaction will mean that the policy will remain non-conforming (despite satisfying the other objective requirements). Non-conforming treatment means that the policy will give rise to an exempt payment of proceeds at the expense of a non-deductible contribution. It is assumed that most employers will opt for inaction to obtain non-conforming treatment.
Taxpayers seeking to opt into the regime must express a choice in the policy agreement by stating that section 11(w)(ii) is intended to apply to that policy agreement. This choice is to be expressed by making this statement in the policy agreement so that the choice is clearly visible for all parties involved (including SARS). The once-off choice cannot be changed once made.
2. Pre-existing Plans
Taxpayers with pre-existing keyperson plans have slightly different objectives. Their goal is mainly to preserve their prior position. Therefore, if a taxpayer has a policy entered into before 1 January 2012 that satisfies the post-effective date objective criteria for conforming plans, the taxpayer may similarly opt into the regime as above (even though the intention was not initially expressed at the beginning). In this scenario, the taxpayer expresses this choice by adding an addendum to the policy agreement. This addendum will state that section 11(w)(ii) is intended to apply to that policy agreement. Again, the once-off choice expressed cannot be changed once made. In addition, this choice must be expressed by 30 June 2012. Taxpayers with pre-existing keyperson plans without the addendum will be viewed as having non-conforming plans.

The Effective dates:
The proposed amendment is effective retrospectively in respect of premiums incurred from 1 January 2011. In respect of policies in existence before 1 January 2012, the policyholder must express the choice in favour of a section 11(w)(ii) deduction within the policy agreement (by way of an addendum) by the close of 1 June 2013. This choice is effective from 1 January 2011.

The draft 2011 Taxation Laws Amendment Bills (TLAB) are published for public comment before formal introduction in Parliament. The Standing Committee of Finance (SCOF) convenes informal hearings on these draft bills and considers public comments received. Subject to confirmation from the SCOF, the date for the briefing is planned for 15 June 2011, and the dates for the public hearings are set for 21 and 22 June 2011. The National Treasury and SARS consider all the comments received, and thereafter submit a response document to the SCOF in August. The draft Bills are then revised and formally introduced in Parliament by the Minister of Finance (expected to be in early September).

More information on this and other related tax amendment matters can be obtained on the websit of National Treasury (www.treasury.gov.za) and that of SARS (www.sars.gov.za)



purenp Tue Jun 07, 2011 8:50 pm

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All the talk seem to be about pure risk or similar policies. What is the position of SARS and sec 11(w) re Endowment policies with life cover that was taken out on the life of an employee where the cash value of the plicy has now built up a substantial amount and the life cover is still in place?

purenp wrote:

All the talk seem to be about pure risk or similar policies. What is the position of SARS and sec 11(w) re Endowment policies with life cover that was taken out on the life of an employee where the cash value of the plicy has now built up a substantial amount and the life cover is still in place?

With the release of the proposals under the Tax Amendment Act and the subsequent meeting between Treasuray and ASISA on 25/11/2010, it was proposed that Key Person policies, as one of two types of company-owned policies should be defined as:
- a risk policy (as opposed to an investment/endowment type policy that builds up a cash value)
- taken out by the employer on the life of an employee
- with the purpose to cover some form of risk .... etc
Reference was thus to pure risk policies and excluded any policies which built up a cash value.

Treasury has subsequently released a draft of the 2011 Taxation Laws Amendment Bills which gives effect to most of the 2011 Budget Review tax proposals, as well as additional urgent measures. In 2011, changes were made to the taxation of long-term insurance in order to prevent executives from using keyperson plans as a means of avoiding fringe benefit tax. These changes, however, highlited the need to revise the whole system as applied to policyholders and beneficiaries.
Reasons for the changes are that the rules relating to keyperson plans are based on the assumption that employers entering into genuine key person plans desired an upfront deduction. This assumption, however, turned out to be misguided. To the extent that long-term insurance is genuinely used to protect against lost profits due to the loss of key persons, employers largely seek to obtain tax-free insurance proceeds at the expense of an upfront deduction. The tax-free nature of the proceeds is viewed as the top priority. Otherwise, employers must top-up these plans to additionally cover potential taxes to be paid.
Employers seeking false-key person plans, on the other hand, were the main drivers for the upfront deduction. The goal for this category of employers was an upfront deduction for the employer without a corresponding fringe benefit in respect of the premiums for the employee. The taxable nature of the payment proceeds was ultimately less of a concern for employers because these payment proceeds were largely intended for the benefit of the employees (or their beneficiaries).

With the draft of the Tax Laws Amendment Bill 2011, dated 2nd June 2011, it is now proposed as follows with regards to keyperson plans:
1. Plans entered into from 1 January 2012
In view of the above, taxpayers seeking an upfront deduction for keyperson policy plans will now have to opt into the regime (conforming treatment). Inaction will mean that the policy will remain non-conforming (despite satisfying the other objective requirements). Non-conforming treatment means that the policy will give rise to an exempt payment of proceeds at the expense of a non-deductible contribution. It is assumed that most employers will opt for inaction to obtain non-conforming treatment.
Taxpayers seeking to opt into the regime must express a choice in the policy agreement by stating that section 11(w)(ii) is intended to apply to that policy agreement. This choice is to be expressed by making this statement in the policy agreement so that the choice is clearly visible for all parties involved (including SARS). The once-off choice cannot be changed once made.
2. Pre-existing Plans
Taxpayers with pre-existing keyperson plans have slightly different objectives. Their goal is mainly to preserve their prior position. Therefore, if a taxpayer has a policy entered into before 1 January 2012 that satisfies the post-effective date objective criteria for conforming plans, the taxpayer may similarly opt into the regime as above (even though the intention was not initially expressed at the beginning). In this scenario, the taxpayer expresses this choice by adding an addendum to the policy agreement. This addendum will state that section 11(w)(ii) is intended to apply to that policy agreement. Again, the once-off choice expressed cannot be changed once made. In addition, this choice must be expressed by 30 June 2012. Taxpayers with pre-existing keyperson plans without the addendum will be viewed as having non-conforming plans.

The Effective dates:
The proposed amendment is effective retrospectively in respect of premiums incurred from 1 January 2011. In respect of policies in existence before 1 January 2012, the policyholder must express the choice in favour of a section 11(w)(ii) deduction within the policy agreement (by way of an addendum) by the close of 1 June 2013. This choice is effective from 1 January 2011.

The draft 2011 Taxation Laws Amendment Bills (TLAB) are published for public comment before formal introduction in Parliament. The Standing Committee of Finance (SCOF) convenes informal hearings on these draft bills and considers public comments received. Subject to confirmation from the SCOF, the date for the briefing is planned for 15 June 2011, and the dates for the public hearings are set for 21 and 22 June 2011. The National Treasury and SARS consider all the comments received, and thereafter submit a response document to the SCOF in August. The draft Bills are then revised and formally introduced in Parliament by the Minister of Finance (expected to be in early September).

More information on this and other related tax amendment matters can be obtained on the websit of National Treasury (www.treasury.gov.za) and that of SARS (www.sars.gov.za)

All the talk seem to be about pure risk or similar policies. What is the position of SARS and sec 11(w) re Endowment policies with life cover that was taken out on the life of an employee where the cash value of the plicy has now built up a substantial amount and the life cover is still in place?

Andrew M van Dam wrote:

Crest wrote:

Andrew M van Dam wrote:

Another question. A client married in cop has a property portfolio of R15m and dies. Is CGT levied on the gain of R15m or R7,5m?

Where A and B are married in community of property and deceased A leaves his estate (R7,5m) to B (surviving spouse), there is a CGT rollover relief.
Should deceased A, however, leave his estate (R7,5m) to C, there would be no relief and CGT would be levied on the value of those assets which he (his estate) disposes of.

Thanks Crest. So this 'rollover', is it similar to the 4q deduction for estate duty? if so what sec of the CGT act?

Yes Andrew, the rollover relief for CGT is regulated by sec. 67 (Transfer of assets between spouses) Schedule 8 of the Income Tax Act

Crest wrote:

Andrew M van Dam wrote:

Another question. A client married in cop has a property portfolio of R15m and dies. Is CGT levied on the gain of R15m or R7,5m?

Where A and B are married in community of property and deceased A leaves his estate (R7,5m) to B (surviving spouse), there is a CGT rollover relief.
Should deceased A, however, leave his estate (R7,5m) to C, there would be no relief and CGT would be levied on the value of those assets which he (his estate) disposes of.

Thanks Crest. So this 'rollover', is it similar to the 4q deduction for estate duty? if so what sec of the CGT act?

Andrew M van Dam wrote:

Another question. A client married in cop has a property portfolio of R15m and dies. Is CGT levied on the gain of R15m or R7,5m?

Where A and B are married in community of property and deceased A leaves his estate (R7,5m) to B (surviving spouse), there is a CGT rollover relief.
Should deceased A, however, leave his estate (R7,5m) to C, there would be no relief and CGT would be levied on the value of those assets which he (his estate) disposes of.

Another question. A client married in cop has a property portfolio of R15m and dies. Is CGT levied on the gain of R15m or R7,5m?

Ben wrote:

So far the discussion has been about key man policies. What about policies designed to cover contingent liabilities that were non conforming? The employer will not suffer a loss as a result of the death of the assured but all the other conditions are applicable.

Thank you for your question, Ben. There is often confusion as to the meaning of "key-person" policies and this gives us the opportunity to clarify the matter.
Changes to sec 11(w) of the ITA affect two types of company-owned policies, one of which is Key-Person policies.
A key-person policy is a risk policy taken out by a taxpayer (employer) on the life of an employee or director to cover a risk. These policies will be referred to as 'key-person' policies. Altough the act does not mention the words "key-person policy", it is actually defined as:
- a risk policy (as opposed to an investment/endowment type policy that builds up a cash value)
- taken out by the taxpayer (emloyer) on the life of an employee
- with the purpose to cover some form of risk or loss that the company may suffer as a result of the death, disability or severe illness that an employee may suffer. The risk can be a contigent liability, key person cover and overhead protection at death. It is not a closed list.
- all references to "key person" policies refer to a collective term of company owned policies as defined above.

So far the discussion has been about key man policies. What about policies designed to cover contingent liabilities that were non conforming? The employer will not suffer a loss as a result of the death of the assured but all the other conditions are applicable.

Admin wrote:

I have some clients with Universal Lifestyle policies (Liberty Guaranteed reviewable Lifestyle and Old Mutual Flexi life policies) done as keyman non-conforming policies. They provide a substantial amount of life and disability cover and now have sizeable cash values

Will these now be treated as deferred compensation policies when in fact they were never done as such? There was never a service agreement, the employee has no right to these policies whatsoever. Now it seems that the large premiums on these policies is going to be added to the employee’s income as a fringe benefit?

This seems totally unfair and I would appreciate any input you may have.

Under the current legislative changes it appeared that all the proceeds of policies previously structured as non-conforming policies would also have been taxed in the hands of the empolyer. The empolyer would only receive relief for premiums not previously deducted. It also appeared that the only way to cater for a risk policy that will not be tax deductible is to sell a product with a cash value (almost like the old universal type policies). This would have ensured that the premiums towards the policy would not have been deductible, and the proceeds would have been free of further tax. This is how it appeared before the meeting between ASISA and the Treasury.
At the meeting between Treasury and ASISA on the 25th November 2010, it was confirmed that previously structured non-conforming policies will remain non-deductible and the proceeds will remain free of further tax.
Please also see the reply to the post from regpitcher above.

regpitcher wrote:

Hi There

As far as I am aware all Keyman policies in force before 1st Nov 2010 will be exempt from the new 11w regs.

Hi Regpitcher
To qoute from a letter by Vlok Symington (SARS) to Peter Stephan (ASISA) dated 18 February 2011 regarding Conforming/Non-conforming key-person policies:
"we are not in support of amendments to policy contracts with the aim of circumventing the provisions of sec 11(w), causing the proceeds to become tax free. We recognise, however, that true key-person policies that were previously "non-conforming" and in respect of which no premiums were claimed as a tax deduction by anyone, should be treated differently for purposes of par. (m) of the definition of "gross income" in sec 1 of the Income Tax Act (the Act). We would therefore be proposing an amendment to the Act that will exempt from tax (or not include in gross income) the proceeds of a previously "non-conforming" key-person policy that was concluded prior to the promulgation date of the 2010 Taxation Laws Amendment Act. We would propose for this amendment to take effect from the commencement of years of assessment commencing on or after 1 January 2011 (i.e. the same as for sec. 11(w)).
So, yes, if these amendments are implemented, such policies will be exempt.

Hi There

As far as I am aware all Keyman policies in force before 1st Nov 2010 will be exempt from the new 11w regs.

I have some clients with Universal Lifestyle policies (Liberty Guaranteed reviewable Lifestyle and Old Mutual Flexi life policies) done as keyman non-conforming policies. They provide a substantial amount of life and disability cover and now have sizeable cash values

Will these now be treated as deferred compensation policies when in fact they were never done as such? There was never a service agreement, the employee has no right to these policies whatsoever. Now it seems that the large premiums on these policies is going to be added to the employee’s income as a fringe benefit?

This seems totally unfair and I would appreciate any input you may have.