Unit 10 - Taxation of Life Insurance Annuities

Question 1

How are premiums paid taxed?

Answer 1

Premiums are NOT tax deductible.

Question 2

How are the interest earnings credited to the insurance cash value taxed?

Answer 2

They are tax deferred, not taxable as long as they remain inside the policy.
Policyowner is taxed if gain is withdrawn.

Question 3

How are Full Surrenders taxed?

Answer 3

Any gain in the cash value is taxable.
The gain is:
Cash Value - Policy’s Cost Basis (sum of premiums paid)

Question 4

How are Withdrawals / Partial Surrenders taxed?

Answer 4

• Taxed only if withdrawal exceeds premiums paid

- Only the gain (if any) is taxed

Question 5

How are Policy Loans taxed?

Answer 5

Loans are not taxable, even if the amount of the loan exceeds the policy’s cost basis.
Interest paid on the policy loan is not tax-deductible.

Question 6

How are Dividends taxed?

Answer 6

Dividends are not taxable, because they are considered to be return of premium paid.

Question 7

How are Death Benefits taxed?

Answer 7

Lump sum = not taxable
- Not taxed if paid in a lump sum to the named bene (individual or business)

Interest is taxable
- If paid over time, part of the payment is not taxed and part is taxed.

Question 8

How are Accelerated Death Benefits taxed?

Answer 8

Accelerated death benefits are an advance of death benefits, therefore same tax treatment as regular Death Benefit.

Question 9

How are Annuity Premiums taxed?

Answer 9

Premiums are not tax deductible unless the contract is held in a qualified retirement plan.

Question 10

How are Accumulations taxed?

Answer 10

Interest earnings credited to individual annuities are tax-deferred. They become taxable when paid out.
Earnings on annuities owned by corporations are taxable when they are credited.

Question 11

How are Annuity Payments taxed?

Answer 11

• Taxed according to the exclusion ratio

Premiums paid in / Total expected payments over annuitants life expectancy = Percent of payment NOT taxed

If annuitant lives beyond life expectancy, 100% of payment becomes taxable.

Question 12

Distributions at Death - Lump Sum

Answer 12

All of gain is taxable

Question 13

Distributions at Death - Five Year Withdrawal

Answer 13

Gain is taxable and gain must be taken out first.

Question 14

Distributions at Death - Annuity Payments

Answer 14

Must be within one years from date of death. Part taxable gain and part non-taxable cost basis.

Question 15

Distributions at Death - If spouse

Answer 15

Transfer of ownership to spouse with no tax consequences

Question 16

1035 Exchanges

Answer 16

Allows individuals to move cash values from one contract to another without having any gain taxed at that time.
To qualify the old and new life insurance policies must have the same policyowner and same insured. Annuity policies must have the same contract owner and same annuitant.

Question 17

1035 Exchange tax penalties

Answer 17

Life to Life - Not taxable
Annuity to Annuity - Not taxable
Life to Annuity - Not taxable
Annuity to Life - DOES NOT QUALIFY FOR 1035, ANNUITY GAINS ARE TAXABLE.

Question 18

Life insurance death benefits are included as insured’s estate if…

Answer 18

• Payable to the insured’s estate
• Insured owns the policy at time of death
• Insured transferred ownership within three years of death

Question 19

Annuities death benefits are included in gross estate if…

Answer 19

• Death occurs during accumulation - entire value including cost is included
• Death occurs during annuitization - present value of any payments that will continue to a bene or survivor annuitant is included in the estate.