Once a business decides to move forward with a Section 162 executive bonus plan, one of the most consequential decisions is which type of life insurance policy to use. This isn’t a one-size-fits-all choice — the right answer depends on the executive’s age and health, the business’s funding goals, and how much predictability versus growth potential matters to the plan. Here’s how the main options compare.

Why Permanent Life Insurance, Not Term

Before comparing specific types, it’s worth explaining why term life insurance is rarely used in a section 162 bonus plan. Term insurance is generally cheaper, but it doesn’t build cash value and expires at the end of its term. Because part of the appeal of this strategy — for both the business and the employee — is the accumulation of a lasting asset with cash value, permanent life insurance is almost always the better fit, even though it costs more than term coverage for the same death benefit.

Whole Life Insurance

Whole life insurance offers the most predictability of the permanent options. Premiums are typically level and guaranteed not to increase, the death benefit is guaranteed as long as premiums are paid, and cash value grows on a guaranteed schedule, often supplemented by non-guaranteed dividends from participating policies. This predictability makes whole life appealing to businesses and executives who prioritize certainty over the potential for higher growth, and it tends to be a strong fit for restricted plans (REBAs) where the business wants confidence that the policy will perform as illustrated over the vesting period.

Universal Life Insurance

Universal life offers more flexibility than whole life — premiums can often be adjusted within a range, and the death benefit can sometimes be increased or decreased over time. Cash value growth is tied to a credited interest rate set by the insurer, which can fluctuate with market conditions, meaning performance is less guaranteed than whole life but potentially more responsive to favorable interest rate environments. This flexibility can be attractive for businesses that want the option to adjust funding over time, though it requires more active monitoring to ensure the policy stays adequately funded.

Indexed Universal Life (IUL) Insurance

Indexed universal life ties cash value growth to the performance of a market index, like the S&P 500, typically with a cap on maximum gains and a floor that protects against losses in down years. This structure offers the potential for higher long-term growth compared to whole life or standard universal life, but it comes with more complexity and more variability in actual outcomes — illustrated projections for IUL policies are non-guaranteed and can vary significantly from actual performance depending on market conditions over the life of the policy.

Matching Policy Type to the Executive’s Age

Younger executives, with a longer time horizon before the benefit is likely to be accessed, are often better positioned to take advantage of the growth potential in universal life or indexed universal life, since they have more time to ride out variability in crediting rates or index performance. Older executives, particularly those within 10-15 years of an expected retirement or benefit access point, often benefit from the predictability of whole life, since there’s less time to recover from a period of underperformance.

Matching Policy Type to the Business’s Goal

If the primary goal is a guaranteed, reliable death benefit with predictable premium costs, whole life is usually the more conservative and dependable choice. If the goal includes maximizing long-term cash value growth as a supplemental benefit, and the business and executive are comfortable with some variability, universal life or indexed universal life may better serve that objective, provided the plan includes regular reviews to monitor actual performance against projections.

Why This Decision Shouldn’t Be Made in Isolation

The right policy type is best determined through a conversation that considers the specific executive’s age and health, the business’s funding capacity and goals, and how the plan will be reviewed and maintained over time — not chosen simply because it’s the provider’s preferred product. An independent provider with access to multiple carriers should be able to run illustrations across policy types so you can compare projected outcomes side by side before deciding.

There’s no universally “best” policy type for section 162 life insurance — the right choice depends entirely on the specific executive and the business’s priorities, which is why this decision deserves a dedicated conversation with your provider rather than a default selection.

Frequently Asked Questions

Why isn’t term life insurance used for a Section 162 plan?

Term insurance doesn’t build cash value and expires at the end of its term, which conflicts with the goal of building a lasting asset for the employee. Permanent life insurance is used instead specifically because it accumulates cash value over time.

Is whole life or indexed universal life the better choice?

Neither is universally better — whole life offers more predictability and guarantees, while indexed universal life offers potentially higher growth with more variability. The right choice depends on the executive’s age, the business’s risk tolerance, and funding goals.

Can the policy type be changed after the plan is already set up?

Changing carriers or policy types after issue generally requires a 1035 exchange, which involves new underwriting and potential surrender charges, so it’s worth choosing carefully at the outset rather than assuming an easy switch later.

Does policy type affect how much the bonus needs to be?

Yes, different policy types have different premium structures for the same death benefit, so the choice of policy type directly affects the size of the bonus needed to fund it adequately.

Is indexed universal life riskier than whole life?

It carries more variability in cash value growth since it’s tied to market index performance, though most IUL policies include a floor that protects against losses in the cash value from market downturns, unlike a direct market investment.

Should the policy type match the plan’s restriction status (REBA vs. unrestricted)?

Not necessarily by rule, but whole life’s predictability is often a natural fit for restricted plans where the business wants confidence the policy performs reliably through the vesting period, while unrestricted plans have a bit more flexibility to consider growth-oriented options.