If these programs are set up simply for tax reasons, the costs associated with COLI will be disallowed. If an employer takes out a policy to protect itself from loss in the event of an insured employee's death, the employer is considered as benefiting directly or indirectly. Thus, even if the premiums otherwise would be a valid business expense, they are not deductible if the employer is directly or indirectly a beneficiary. Interest on COLI policies. Generally, no deduction is allowed for interest paid or accrued on any debt with respect to company-owned life insurance policies covering current or former officers or employees of any current or former trade or business carried on by the company or any individual with a financial interest in such trade or business.
Businesses often buy key person coverage on the lives of top executives.
There is an exception to the interest disallowance rule for interest on debt with respect to life insurance policies covering key persons. In addition, the amount allowed as a deduction for interest paid or accrued on debt with respect to policies covering key persons is subject to an interest rate cap. While COLI programs often serve valid business purposes, they are also viewed as an area of possible abuse. As such, Congress has changed and restricted the rules relating to these programs over the past few years. In the current climate, in which Congress is closely scrutinizing corporate tax shelters, further changes and restrictions may result.