Tax Treatment of Life Insurance Proceeds (Course Id 429)

Taxes - Taxes for Course Id 429

One of the important considerations in many financial transactions is the tax treatment the transaction is given. Often, the impact of taxation is a consideration in the purchase of life insurance every bit as much as it applies to stock purchases, bond purchases and the establishment of qualified retirement plans.

In this course we will look at the tax treatment given proceeds from life insurance policies and will consider the taxation of death benefits, cash value withdrawals, loans and surrenders. In addition, we will examine the differences in tax treatment caused by a life insurance policy’s:

• Failure to meet the statutory definition of life insurance;
• Being deemed a modified endowment contract;
• Transfer of ownership to another person for a valuable consideration;
• Sale in a viatical or life settlement transaction;
• Ownership by an employer; and
• Use in a qualified retirement plan. 

NASBA QAS - Text - NASBA Registry - IRS Enrolled Agents - Registered Tax Return Preparers - 429

Course Learning Objectives

• Calculate the gain to be recognized as a result of various life insurance policy transactions, including –
  o withdrawals,
  o loans,
  o surrenders, and
  o payment of death benefits;
• Identify the changes to the customary tax treatment of life insurance policy living proceeds resulting from the policy being deemed a modified endowment contract (MEC);
  
• Calculate the reportable gain upon receipt of life insurance policy death benefits when the life insurance policy –
  o has been transferred for a valuable consideration, or
  o was included in a qualified plan;
• Recognize the types of life insurance exchanges that are tax-free under IRC §1035;
  
• Define the terms “terminally-ill” and “chronically-ill” as used in the Health Insurance Portability and Accountability Act; and
  
• Identify the income tax treatment of accelerated death benefits, viatical settlements and life settlements.

Chapter 1
Life Insurance Death Benefits

• Compare the customary income tax treatment given to life insurance policy death benefits with the income tax treatment given to such benefits under a life insurance policy transferred for a valuable consideration;
  
• Calculate the taxable portion of life insurance death benefits under a policy included in a qualified plan;
  
• Identify the tax treatment of death benefits received as periodic payments under a supplementary contract;
  
• Define the terms “terminally-ill” and “chronically-ill” as used in the Health Insurance Portability and Accountability Act; and
  
• Identify the income tax treatment of accelerated death benefits and viatical settlements.

Chapter 2
Life Insurance Policy Living Proceeds

• Recognize the customary income tax treatment given to life insurance policy withdrawals, loans and surrender proceeds;
  
• Identify the changes to the tax treatment of life insurance policy living proceeds resulting from the policy being deemed a modified endowment contract;
  
• Identify the types of life insurance exchanges that are tax-free under IRC §1035; and
  
• Recognize the income tax treatment of life settlements.

Course Learning Objectives

Introduction

Chapter 1 - Life Insurance Death Benefits

Chapter Learning Objectives

Introduction

Nature of Life Insurance

Premiums

Cash Value Accumulation

Taxation of Life Insurance Policy Death Benefit Proceeds

Statutory Definition of Life Insurance

Cash Value Accumulation Test

Guideline Premium and Cash Value Corridor Test

Taxation of Death Benefits under Contracts not Meeting Definition of Life Insurance

Transferred Policy Ownership

Policies Transferred as a Gift

Policies Transferred for Value

Exceptions to Transfer for Value Rule

Life Insurance in Qualified Retirement Plans

Plan Participant Taxed on Current Life Insurance Benefit

Beneficiary Taxed on Part of Qualified Plan Life Insurance Death Benefit

Employer-Owned Life Insurance

Income Taxability of Viatical Settlement Proceeds

Viatical Settlement Proceeds Tax-Free to Terminally-ill Insured

Viatical Settlement Proceeds Tax-Free up to Daily Limits to Chronically-ill Insured

Viatical Settlements in Business Situations an Exception to Tax-Exemption

Taxability of Accelerated Death Benefits

Death Benefits Received under Settlement Options

Interest-Only Settlement Option

Temporary Annuity

Life Annuity

Variable Payout Settlement Options

Life Annuity with Minimum Payment Guarantee

Summary

Chapter Review

Chapter 2 - Life Insurance Policy Living Proceeds

Chapter Learning Objectives

Introduction

Definition of Life Insurance Impacts Tax-Deferred Accumulation

Taxation of Living Proceeds of Life Insurance Policies

Policy Loans Not Generally Considered Distributions

Policy Dividends Generally Considered Return of Premium

Cash Value Withdrawals Generally Receive FIFO Tax Treatment

Gain on Surrender Includible in Income

Seven-Pay Test Determines MEC Status

Tax Consequences of MEC Status

Dividends Taxable

Cash Value Withdrawals

Loans Considered Distributions

Gain Included in Cash Surrender Proceeds Taxable

MEC Tax Penalty May Apply

MEC Summary

Qualified Long Term Care Charges from MECs Exempt

Distributions in Payment of Long Term Care Insurance Coverage

Tax Deduction for LTC Premiums Denied if Paid by Charge Against Cash Value

Tax-Free Exchanges under IRC §1035

Tax Treatment of Life Settlement Proceeds

Calculating the Life Settlement Gain

Step 1—Calculate the Overall Life Settlement Gain

Step 2—Calculate the Policy Gain

Step 3—Determining Capital Gain Tax Treatment

Life Insurance Living Proceeds Received under Settlement Options

Interest-Only Settlement Option

Surrender or Maturity Proceeds Settled in Installments

Temporary Annuity

Life Annuity

Variable Payout Settlement Options

Life Annuity with Minimum Payment Guarantee

Summary

Chapter Review

Glossary