A Small Business Owner Retiring With Company-Owned Coverage (2026)

Inventory first: five questions per policy

Build a one-row-per-policy table and fill in all five columns before any decision is made.

1. Who is the owner of record? The entity, another shareholder, a trust, or the insured personally. Ask the carrier in writing; the corporate minute book is frequently wrong.
2. Who is the beneficiary of record? Same caution. A policy intended to fund a redemption but naming the founder’s ex-spouse is not a hypothetical.
3. What was it bought to do? Key person indemnity, buy-sell funding, deferred compensation informal funding, loan collateral for a bank or an SBA lender, or personal coverage the company happened to pay for.
4. Is there a written agreement tying the policy to an obligation? A buy-sell agreement, an endorsement split-dollar agreement, a collateral assignment, or a loan covenant. That agreement usually controls what may be done with the policy.
5. Was section 101(j) notice and consent obtained before issuance? This is the one with no cure. Details below.

Related scenarios are covered separately at a key person policy after the executive retires and at a buy-sell policy that is no longer needed.

Section 101(j): the consent that cannot be fixed later

Internal Revenue Code section 101(j) was added by the Pension Protection Act of 2006 and applies to employer-owned life insurance contracts issued after August 17, 2006. Its default rule is severe: the death benefit on an employer-owned contract is taxable income to the employer to the extent it exceeds the premiums and other amounts paid for the contract.

Two things must both be true to escape that default.

First, the notice and consent requirements of section 101(j)(4) must have been satisfied before the policy was issued. The employee must have been notified in writing that the employer intended to insure their life, told the maximum face amount for which they could be insured, informed that the employer would be a beneficiary, and must have given written consent to coverage continuing after employment ends. Consent obtained after issuance does not work. There is no retroactive fix, no reasonable-cause exception in the statute, and no way to paper it later.

Second, an exception must apply. The common ones: the insured was a director, a highly compensated employee, or an employee at any time during the twelve-month period before death; or the proceeds are paid to a member of the insured’s family, to a designated beneficiary of the insured, to the insured’s estate, or are used to purchase an equity interest from any of those parties.

There is also an annual reporting obligation. Employers holding employer-owned life insurance contracts file Form 8925 with their tax return, reporting the number of employees, the number insured, the total face amount in force, and whether valid consent was obtained for all insured employees. Many small businesses have never filed it. If a policy has a 101(j) defect, the disposition strategy has to be built around that fact rather than in spite of it, because it materially changes what the policy is worth to the company. The dissolution version of this analysis is at a key man policy when the business closes.

The transfer-for-value trap in an unwind

This one destroys more value than any other error in this area, and it is entirely avoidable.

Section 101(a)(2) provides that if a life insurance policy is transferred for valuable consideration, the death benefit becomes taxable to the extent it exceeds the consideration paid plus subsequent premiums. In other words, a routine tax-free death benefit becomes ordinary income.

There are statutory exceptions. A transfer to the insured, to a partner of the insured, to a partnership in which the insured is a partner, or to a corporation in which the insured is a shareholder or officer is safe. A transfer in which the transferee takes the transferor’s basis, such as certain gifts, is also safe.

Note carefully what is not on that list: a transfer to a co-shareholder of the insured. This is the classic failure in unwinding a cross-purchase buy-sell arrangement between shareholders of a corporation. Two shareholders each own a policy on the other, one retires, and the policies are swapped or sold between them. Each transfer is for value and to a co-shareholder, which is not an exception, and both death benefits become taxable. Partnerships and LLCs taxed as partnerships do not have this problem because partner-to-partner transfers are excepted, which is one reason practitioners often prefer an entity structure or a trusteed arrangement. See a buy-sell policy after a partner is bought out.

A sale to a licensed life settlement provider is also a transfer for value, but it does not matter to the seller, because the seller is receiving cash rather than a future death benefit. The tax consequence falls on the buyer, who prices it in. That distinction is worth understanding rather than fearing.

Transfer	Transfer-for-value exception?	Death benefit stays tax-free?
To the insured personally	Yes	Yes
To a partner of the insured	Yes	Yes
To a partnership in which insured is a partner	Yes	Yes
To a corporation where insured is shareholder or officer	Yes	Yes
To a co-shareholder of the insured	No	No, becomes taxable
Sale to a licensed settlement provider	No, but seller receives cash	Not relevant to the seller

Distributing the policy out of the company

The most common request is simply to transfer the policy to the retiring owner personally. That is a permitted transfer under the insured exception to the transfer-for-value rule, which is good. It is not free.

Moving a policy from a C corporation to a shareholder is a distribution, taxable as a dividend to the extent of earnings and profits, measured at the policy’s fair market value rather than at cash surrender value. From an S corporation it is generally a distribution reducing basis. Compensation treatment is also possible where the transfer is in recognition of services, producing an ordinary income inclusion for the recipient and potentially a deduction for the company.

Fair market value for this purpose is not the cash surrender value. Revenue Procedure 2005-25 sets out safe harbor methods for valuing a life insurance contract, generally built around interpolated terminal reserve plus unearned premiums plus a proportion of any reserve for dividends. Carriers will produce the figures. Anyone doing this without a valuation is guessing at the size of a taxable event.

One further point that gets missed. Premiums paid by a business on a policy where the business is a direct or indirect beneficiary are not deductible under section 264(a)(1). Owners often assume years of premiums were a deductible expense; usually they were not.

And for estate planning: under Treasury Regulation section 20.2042-1(c)(6), if the decedent was a controlling shareholder, meaning owning more than 50 percent of the combined voting power, the corporation’s incidents of ownership in a policy on their life are attributed to them to the extent the proceeds are not payable to or for the benefit of the corporation. A policy the owner believed was safely outside the estate may not be. That is a conversation for their own estate attorney before the closing, not after.

Options ranked

1. Leave the policy where it is and update the agreements. If the retiring owner will hold a note from the company or retain an equity stake, the key person or buy-sell coverage may still be doing real work. Amend the agreement rather than moving the asset.
2. Transfer to the insured personally. Safe under the transfer-for-value exception. Costs a distribution or compensation event measured at fair market value. Frequently the right answer when the owner wants to keep the coverage.
3. Reduce the face amount to whatever obligation actually survives the retirement, cutting the premium proportionally.
4. Reduced paid-up or extended term, where the contract is whole life and the goal is to stop premiums without losing everything.
5. 1035 exchange into a contract better suited to the post-retirement purpose. Requires current insurability at a workable rating.
6. Sell the policy on the licensed secondary market. Realistic when the insured is roughly 70 or older or health-impaired, the face amount is meaningful, and no obligation ties the policy up. Related analyses at a corporate-owned policy on a retiree, company-owned policies after a business sale, and selling COLI when the company dissolves.
7. Surrender. Produces cash surrender value, and for a C corporation may also produce a gain taxed at corporate rates plus a second layer on distribution. Often the worst tax outcome on the list, which is why it should be tested against the market first.
8. Let it lapse. Nothing recovered, and possible fiduciary exposure if other shareholders relied on the coverage.

Professional practices have their own variant, addressed at policies in a practice dissolution.

When selling is the wrong answer

• A binding buy-sell agreement still obligates the policy. Selling a policy pledged to fund a purchase obligation breaches the agreement and leaves the obligation unfunded. Amend or release it in writing first, with all parties signing.
• The policy secures a bank or SBA loan by collateral assignment. The lender has a recorded interest and will not release it without repayment or substitute collateral. This has to be resolved before anything else.
• The retiring owner is holding a seller note. If the buyer’s ability to pay depends on the owner remaining alive, or the seller’s family depends on the note being paid, insurance on the relevant life is doing exactly its job.
• Other shareholders have not consented and the agreement requires it. Even where the entity is the legal owner, a sale that surprises the remaining owners creates a dispute that outlasts the proceeds.
• The insured is under about 65 and healthy, or the face amount is under roughly $100,000. Institutional buyers generally will not bid meaningfully in either case.
• The corporate tax outcome has not been modeled. A sale by a C corporation can produce a corporate gain and then a second tax on distributing the cash. Run the after-tax number, not the headline offer.
• Estate planning depends on the coverage. Where the policy provides liquidity to pay estate obligations or to equalize between children in and out of the business, the coverage is part of the plan and should not be unwound casually.

Pine Lake Life Solutions offers a free, no-obligation policy review. Send the policy cover page for each contract and we will help you sort what is doing work from what is not. We are an educational resource and a broker-side advocate; we do not purchase policies, and nothing here is legal or tax advice. Call (305) 209-7183.

The document list to hand your CPA and attorney

Gather these before the first meeting. It shortens the engagement and prevents the advisor from working off assumptions.

• Policy cover page and a current in-force illustration for every contract, run at guaranteed assumptions.
• Written confirmation of owner and beneficiary of record from each carrier.
• The section 101(j) notice and consent forms, with the date signed and the policy issue date, so the sequence can be verified.
• Copies of any Form 8925 filed with prior returns.
• The buy-sell agreement and every amendment, plus any funding schedule attached to it.
• Any split-dollar agreement, collateral assignment, or endorsement, and the loan documents they secure.
• Corporate minutes authorizing the purchase of each policy.
• A premium payment history, which establishes basis.
• A Revenue Procedure 2005-25 valuation from the carrier if any policy will be distributed or transferred.

The pattern worth internalizing: in this area the tax result is driven by paperwork that existed years before the decision, not by the decision itself. Owners who assemble the file first make good choices. Owners who transfer first and investigate later frequently find the outcome was locked in before they started.

---

Frequently Asked Questions

What is section 101(j) and why does it matter at retirement?

It makes the death benefit on an employer-owned life insurance contract issued after August 17, 2006 taxable to the employer unless written notice and consent were obtained before issuance and an exception applies. The consent cannot be created retroactively. At retirement it matters because it determines what the policy is actually worth to the company before you decide how to dispose of it.

Can the company just give me the policy when I retire?

Legally yes, and a transfer to the insured is a safe exception to the transfer-for-value rule. But it is a taxable event measured at the policy’s fair market value, not its cash surrender value, and it will be treated as a distribution or as compensation depending on the facts. Get a Revenue Procedure 2005-25 valuation from the carrier before executing anything.

We each own a policy on the other. Can we swap them at the buyout?

Not without tax analysis. A transfer to a co-shareholder is not a listed exception to the transfer-for-value rule, so a swap or sale between shareholders of a corporation can make both death benefits taxable. Partnerships and LLCs taxed as partnerships avoid this because partner-to-partner transfers are excepted. Talk to counsel before any exchange.

Were the premiums the company paid deductible?

Generally no. Section 264(a)(1) disallows a deduction for premiums on any life insurance policy where the taxpayer is directly or indirectly a beneficiary. Many owners assume years of premium payments reduced taxable income; usually they did not. That matters for basis when you compute the gain on a surrender or a sale.

Is a corporate-owned policy included in my estate?

It can be. Under Treasury Regulation 20.2042-1(c)(6), a controlling shareholder owning more than 50 percent of combined voting power is attributed the corporation’s incidents of ownership, to the extent proceeds are not payable to or for the benefit of the corporation. Owners who assumed corporate ownership kept the policy out of the estate should have their estate attorney confirm it.

What is Form 8925?

It is the annual information return employers file with their tax return for employer-owned life insurance contracts, reporting the number of employees, how many are insured, total face amount in force, and whether valid consent was obtained for every insured employee. Many small businesses have never filed it. Ask your CPA to check prior returns before the transaction closes.

Related Reading

• Key Person Policy Executive Retired
• Buy Sell Agreement Policy Unneeded
• Buy Sell Funding Partner Bought Out
• Business Closing Key Man Policy
• Corporate Owned Policy On Retiree
• Business Sold Coli Policies
• Sell Coli Policy Company Dissolving
• Professional Practice Dissolution Policy
• Can I Sell A Key Man Life Insurance Policy

---

Pine Lake Life Solutions does not purchase life insurance policies and does not provide legal, tax, or investment advice. Information provided is for educational purposes only. Eligibility for any option, including life settlements, is not guaranteed and depends on individual circumstances, policy terms, underwriting, and market conditions. Consult independent legal, tax, or financial professionals before making decisions regarding a life insurance policy.