Understanding the Tax Rules Associated with Employer-Sponsored Life Insurance, Including FEGLI
Edward A. Zurndorfer
The tax treatment of an employer-sponsored life insurance plan can be complex. An example of an employer-sponsored life insurance plan is the federal government-sponsored Federal Employee Group Life Insurance (FEGLI) program in which many permanent federal and postal service employees are enrolled. This column discusses the tax treatment of the FEGLI program and what it means to federal and postal service employees who are enrolled in FEGLI and to their beneficiaries.
Premiums paid on group life insurance policies including FEGLI and individual life insurance policies a federal employee may own, are generally not deductible for income tax purposes. This is because the premiums paid on these policies are considered a personal expense and therefore are not tax-deductible.
The proceeds paid under a life insurance policy to the designated beneficiaries by reason of the insured individual’s death are excludable from the gross income of the beneficiary(ies). The basic requirement for tax-free treatment of life insurance is that the proceeds are paid by reason of the death of the insured policyholder.
With respect to employer-sponsored life insurance such as FEGLI, an employer such as the federal government can provide its employees with up to $50,000 of employer-paid life insurance coverage without any federal and state income tax consequences to its employees. Any employer-paid portion of the premiums of the amount of life insurance above $50,000 is subject to federal income tax, Social Security (FICA) tax (up to the annual Social Security maximum wage base), and Medicare Part A (hospital insurance) payroll taxes.
To help understand the income consequences to employees who participate in the FEGLI program, it is important to review what the FEGLI program consists of. There is a part of the FEGLI program in which employees pay a portion of the premium cost and the federal government pays the other portion. There is also a part of the FEGLI (called the “optional” coverages) in which participating employees pay the entire cost of the premiums with no federal government premium contribution.
The first part of the FEGLI program is called the “Basic” insurance. The “Basic” life insurance coverage is an employee’s current (SF 50) salary, rounded up to the next $1,000, plus $2,000. For example, if an employee has a current SF 50 salary during 2021 of $106,200, then if the employee is enrolled in the FEGLI “Basic” insurance, his or her “Basic” insurance coverage amount is:
| $106,200 rounded up to the next $1,000 | $107,000 | |
| Add $2,000 | + $2,000 | |
| Employee’s current “Basic” life insurance coverage | $109,000 |
Federal employees who are enrolled in the FEGLI “Basic” insurance pay two-thirds (2/3) of the premium cost and the federal government pays the other one-third (1/3) of the premium cost. In terms of dollar amounts, for every $1,000 of FEGLI “Basic” insurance for an employee, the employee currently (pre-October 1, 2021) pays $0.15 per $1,000 of “basic” insurance every pay date. The employee’s agency pays the other 1/3 of the premium cost, or $0.075 cents per $1,000 of coverage. Effective October 1, 2021, FEGLI “basic” insurance rates increase to $0.16 per $1,000 of coverage per pay date, and the employee’s agency FEGLI “basic” insurance premium increases to eight cents per $1,000 of coverage per pay date. The following example illustrates:
Carol, age 50, is a federal employee who is enrolled in FEGLI “Basic” insurance. Her current (September 2021) SF 50 salary is $127,500. Carol’s “basic” insurance is:
| $127,500 rounded up to the next $1,000 | $128,000 | |
| Add $2,000 | + $2,000 | |
| Carol’s FEGLI “Basic” insurance | $130,000 |
Carol’s premium cost each pay date (per $1,000 0f coverage per pay date) is 130 x $0.15 = $19.50. With 26 pay dates per calendar year, Carol’s total premium cost for her “Basic” insurance during 2021 is 26 times $19.50 or $507.00.
Carol’s agency premium cost contribution per pay date towards her “Basic” insurance is 130 x $.075 = $9.75. With 26 dates per calendar year, Carol’s agency pays a total of 26 times $9.75 or $253.50 during 2021 on behalf of Carol.
The other part to the FEGLI life insurance program are the Optional coverages including (1) Option A (Standard = $10,000); (2) Option B (Multiple of Salary); and Option C (Family Coverage). Employees enrolled in any or all of the Optional coverages pay the full cost of the premiums with no federal government contribution. As stated earlier, employee-paid premiums for life insurance are not deductible. Since there is no agency contribution to any of the Optional coverages, there are no tax consequences for employees enrolled in the FEGLI Optional coverages.
Tax Ramifications of Employer Premium Contributions to a Group-Term Life Insurance Plan
The first $50,000 of group-term life insurance that an employer pays for on behalf of an employee is excluded from an employee’s taxable income. If an employer pays a portion or all of the premiums on behalf of an employee for more than $50,000 of term life insurance coverage, then the employer must include the excess coverage above $50,000 in the employee’s taxable income.
This excess (any premiums paid by an employer on behalf of an employee with life insurance coverage exceeding $50,000) is subject to federal income tax, Social Security (FICA) and Medicare Part A (hospital insurance tax) payroll taxes. The employee can decide whether he or she wants to withhold federal income tax on group-term life insurance coverage over $50,000.
Determining the Cost of the Employer-Sponsored Group Life Insurance
To determine the monthly cost of the employer-sponsored life insurance to be included in an employee’s taxable compensation, one must multiply the number of thousands of dollars of life insurance coverage over $50,000 (figured to the nearest $100) by the cost shown in the following table. For all coverage provided within the calendar year, one must use the employee’s age as of the last day of the current year. The cost must be prorated if less than a full month of coverage is involved.
Cost Per $1,000 of Life Insurance Protection for One Month*
| Age | Cost |
| Under 25 | $0.05 |
| 25 through 29 | $0.06 |
| 30 through 34 | $0.08 |
| 35 through 39 | $0.09 |
| 40 through 44 | $0.10 |
| 45 through 49 | $0.15 |
| 50 through 54 | $0.23 |
| 55 through 59 | $0.43 |
| 60 through 64 | $0.66 |
| 65 through 69 | $1.27 |
| 70 and Older | $2.06 |
The following example illustrates the tax consequences resulting from a federal employee enrolled in the FEGLI “basic” insurance.
Stuart is a Senior Executive Service federal employee enrolled in the FEGLI “basic” insurance. Stuart is currently age 60 and has $230,000 of FEGLI “Basic” life insurance. To determine the tax consequences of Stuart’s FEGLI life insurance coverage, the following steps are performed:
Step 1. Reduce the $230,000 coverage by $50,000 to $180,000
Step 2. Calculate the yearly cost of $180,000 (note from the table, the monthly cost for Stuart, age 60, is $0.66 per $1,000): $0.66/$1,000 of coverage per month times 180 times 12 months = $1,425.60
Step 3. Determine Stuart’s premium cost per year for the $180,000 of FEGLI “Basic” insurance: $0.15/$1,000(per pay date) times 180 times 26 pay dates/year = $702.00
Step 4. Subtract Step 3 from Step 2 to determine how much of Stuart’s FEGLI “basic” insurance will be included in Stuart’s income for 2021: $1,425.60 less $702.00 equals $723.60
For the year 2021, Stuart’s agency will include $723.60 in boxes 1, 3 and 5 of Stuart’s 2021 W-2. His agency will also enter $723.60 in Box 12 of his W-2 with a code “C” (taxable cost of group life insurance coverage over $50,000).
Note that since FEGLI “basic” insurance premium rates are increasing effective October 1, 2021, Stuart’s cost for the $180,000 “basic” insurance amount will change. The cost increases to $0.16/$1,000 per date/ Therefore, for the year 2021, Stuart’s “basic” insurance premium cost will be: ($0.15/$1,000) x 20 pay dates + ($0.16/$1,000) x 6 paydates x 180 = $712.80. Therefore, $1,425.60 less $712.80, or $712.80 will be included on Stuart’s 2021 W-2.
Edward A. Zurndorfer is a Certified Financial Planner, Chartered Life Underwriter, Chartered Financial Consultant, Chartered Federal Employee Benefits Consultant, Certified Employees Benefits Specialist and IRS Enrolled Agent in Silver Spring, MD. Tax planning, Federal employee benefits, retirement and insurance consulting services offered through EZ Accounting and Financial Services, and EZ Federal Benefits Seminars, located at 833 Bromley Street – Suite A, Silver Spring, MD 20902-3019 and telephone number 301-681-1652. Raymond James is not affiliated with and does not endorse the opinions or services of Edward A. Zurndorfer or EZ Accounting and Financial Services. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. While the employees of Serving Those, Who Serve are familiar with the tax provisions of the issues presented herein, as Financial Advisors of RJFS, we are not qualified to render advice on tax or legal matters. You should discuss tax or legal matters with the appropriate professional. The examples are case studies for illustrative purposes only. Individual cases will vary. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Prior to making any investment decision, you should consult with your financial advisor about your individual situation.