Life Insurance 1035 Exchanges
What is it?
From time to time, you may consider replacing
or exchanging your life insurance policy for another life insurance contract or
annuity contract. Exchanging your life insurance policy means that you replace
it with another policy issued by the same company or a different one. You may
want to exchange your life insurance policy if, for instance, your present life
insurance company becomes insolvent or if you can get a better rate of return
or lower premium with another policy. The rules governing taxation of life
insurance contract exchanges are spelled out in Internal Revenue Code Section
1035. In general, under Section 1035, you can exchange one life insurance
contract for another without having to immediately pay income taxes; no gain or
loss is immediately recognized. But, you must be careful to follow the rules to
qualify for favorable tax treatment under Section 1035.
What types of contracts qualify
under Section 1035?
The following
are a few of the transactions that qualify under Section 1035:
A life insurance contract exchanged for a
life insurance contract (both contracts must be on the life of the same
insured)
A life insurance contract exchanged for an
endowment contract
A life insurance contract exchanged for an
annuity contract
A life insurance contract exchanged for a
qualified long-term care contract
The following
transactions are among those that do not qualify under Section 1035:
An annuity contract exchanged for a life
insurance contract
An endowment contract exchanged for a life
insurance contract
An annuity contract exchanged for an
endowment contract
What if you have a loan
outstanding on the policy you're exchanging?
Generally, if your loan will be cancelled
(discharged) in the course of the exchange transaction, then the amount of the
loan is treated as ordinary income to the extent the loan proceeds exceed your
basis in the contract and is taxable as such. However, if you exchange a policy
that is subject to an outstanding loan for another policy that is also subject
to an outstanding loan for the same amount, then the transaction should be tax
free, if all other elements of Section 1035 are met.
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Financial
(615) 427-8780
IMPORTANT DISCLOSURES
The
information presented here is not specific to any individual's personal
circumstances.
To the extent
that this material concerns tax matters, it is not intended or written to be
used, and cannot be used, by a taxpayer for the purpose of avoiding penalties
that may be imposed by law. Each taxpayer should seek independent advice from a
tax professional based on his or her individual circumstances.
These
materials are provided for general information and educational purposes based
upon publicly available information from sources believed to be reliable—we
cannot assure the accuracy or completeness of these materials. The information
in these materials may change at any time and without notice.
