287 / Does a transfer for value problem arise when an insurance-funded stock redemption plan is changed to a cross-purchase plan, or vice versa?

Yes. If a corporation sells a policy on stockholder A’s life to stockholder B, proceeds will lose their tax-exempt status ( Q 286). Even if the corporation does not sell a policy, but merely distributes it to stockholders, there will be a transfer for value. Valuable consideration may be found, for example, in relieving the corporation of its obligation to continue premium payments and its obligation to redeem the stock or in satisfying the corporation’s dividend obligation to its stockholders.¹ The danger cannot be averted by a transfer to the insured and a subsequent transfer by the insured to another stockholder ( Q 288).

A transfer by a corporation to a shareholder was ruled to fall within an exception where stockholders also were partners in a bona fide, although unrelated, partnership.²

Similarly, a transfer of a reverse split dollar policy from a corporation to two shareholders who also were partners of the insured for the purpose of funding a cross-purchase agreement fell within the partner exception to the transfer for value rule.³

Further, a transfer of policies insuring shareholders/partners from a corporation to a partnership established specifically to receive and manage the policies was considered within the partnership exception to the transfer for value rule.⁴ However, had the transfer been to a trust for purposes of funding a similar arrangement – the policies would probably have been subject to the transfer for value rule without an exception.

On the other hand, a change from a cross-purchase plan between individual stockholders to a stock redemption plan can be accomplished without violating the transfer for value rule. In each instance, a stockholder will be transferring a policy he or she owns on another stockholder’s life to a corporation in which the insured is a shareholder. This kind of transfer qualifies as one of the exceptions to the transfer for value rule ( Q 285).⁵