Apr 22, 2025
Group Term Life Insurance Nondiscrimination Rules – Section 79
§79 of the Internal Revenue Code (“IRC”) provides that the cost of the first $50,000 of employer-provided group term life insurance coverage can be excluded from the gross income of employees covered under the plan. In other words, the cost of the benefit is not taxable. Conversely, the cost of employer-provided coverage in excess of $50,000 must be included in the gross income of employees and is subject to income, FICA, and Medicare taxes. The cost of group term life insurance that must be imputed as additional taxable income is determined by multiplying the amount of coverage in excess of $50,000 by an age-related valuation rate established by the IRS (“Table I”) less any employee after-tax contributions.
Group-term life insurance | Internal Revenue Service
Nondiscrimination Requirements
In order for a group term life insurance plan to receive favorable tax treatment for the first $50,000 in benefit, the plan must not discriminate in favor of “key employees” as to eligibility to participate or as to the amount or type of life insurance benefit provided. §79 imposes the following two nondiscrimination tests on all employer-provided group term life insurance benefits – the eligibility test and the benefits test.
Eligibility Test:
This test asks whether enough non-key employees are eligible to benefit from the plan. The plan must satisfy one of the following four conditions:
- 70% of all employees benefit under the plan;
- at least 85% of the participants are not key employees;
- the plan benefits a non-discriminatory classification of employees; or
- if part of a cafeteria plan, the requirements relating to cafeteria plans are met.
Benefits Test:
This test requires that the amount and type of benefit cannot discriminate in favor of key employees. This test is satisfied if:
- benefits bear a uniform relationship to compensation; and
- the benefits provided to key employees are provided to all other participants.
Key Employees
For purposes of these tests, a “key employee: is an employee who, at any time during the preceding plan year satisfies any one of the following three criteria:
- an officer earning in excess of $230,000 (for 2025, indexed annually);
- Treasury regulations indicate that no more than 50 employees (or, if lesser, the greater of 3 or 10% of employees) shall be treated as officers.
- an employee who owns >1% of the outstanding stock and who earns more than $150,000 annually; or
- an employee who owns >5% of the outstanding stock
Exclusions
The regulations identify the following individuals that may be excluded for testing purposes:
- employees with <3 years of service;
- part-time (work 20 hours per week or less) or seasonal (work 5 months or less per year) employees;
- certain collectively bargained employees; and
- non-resident aliens with no U.S. source income.
The Sanction… and a Common Response
If an employer’s group term life insurance benefit fails to satisfy either of the two §79 tests described above, all key employees lose the income tax exclusion on the first $50,000 of employer-provided benefit. As a result, the value of the total amount of employer-provided life insurance benefit (as determined using Table I), rather than excluding the first $50,000 in benefit, becomes subject to treatment as imputed income to the key employee and reported as taxable income on the employee’s W-2. NOTE: In all cases, even if a plan is considered discriminatory, all life insurance benefits paid to beneficiaries of group term life insurance plans are received income tax-free.
However, because the value of the income tax exclusion is often felt to be relatively insignificant, many employers have opted to assume a posture of “conscious noncompliance” where, rather than redesign their discriminatory life insurance programs, they will instead choose to impute the taxable value of the first $50,000 of employer-provided group term life insurance to their key employees’ income.
For example, under a discriminatory life insurance program, based on the cost of life insurance defined in Table I, the additional annual income for the first $50,000 that would be imputed on a 60-year-old key employee would be $396 (50 x .66 (Table I rate) x 12). If that key employee were 50 years of age, the additional annual imputed income would drop to $138 (50 x .23 (Table I rate) x 12).
So, if a group term life insurance plan is tested and determined to be discriminatory, is it worth changing the design of the program and then re-communicating the revised design to employees? Only the plan sponsor can make that determination… but in many cases the answer is “no” and employers decide to add the relatively insignificant value of the $50,000 as imputed income to key employees.
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