Do you own any life insurance policies that have outlived their usefulness? It could be a universal life policy that has very little cash value. Or you might have a term policy that is about to renew, but the new premiums are out of reach. And of course, there’s always the possibility you no longer need the insurance.
Rather than letting those policies just lapse, there could be some tax benefits that could possibly translate into more income for you or your beneficiaries.
One idea worth considering is a 1035 Exchange on the life insurance policy to a tax-deferred annuity.
1035 refers to a provision in the tax code that allows for the direct transfer of accumulated funds in a life insurance policy or annuity to another life insurance policy or annuity without creating a taxable event.
For example, let’s say you own a life insurance policy you no longer need. Over the years you had paid in $100,000 worth of premiums, and now it has a $20,000 cash value. Meanwhile, you’ve been looking for a way to get some income sometime in the future.
You may think that there couldn’t be much of a benefit if there’s very little cash value in the policy. But for tax purposes, the amount transferred is actually the cost basis.
In the above example, since you had put $100,000 into the life insurance and it’s only worth $20,000, you have an $80,000 loss. By using the 1035 Exchange, you’ll increase the annuity’s cost basis from $20,000 to $100,000. This means when you or your beneficiaries make withdrawals, an additional $80,000 of growth will come out income-tax free.
The IRS has more info on its Web site. Just click here and insert 1035 Exchange in the search box. Nevertheless, before you take this route, go over the strategy with your advisors.
Good luck!
George
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