Tax Consequences Of A Sale Of A Life Insurance Policy As A Life Settlement or Senior Settlement
Both federal and state taxes may apply to the sale of a live insurance policy as a Life Settlement or Senior Settlement. (If you are considering selling your policy as a Viatical Settlement, see: Tax Consequences Of A Sale Of A Life Insurance Policy As A Viatical Settlement.)
FEDERAL TAX ON SALE OF A LIFE INSURANCE POLICY AS A SENIOR SETTLEMENT/LIFE SETTLEMENT
There currently is no federal legislation regarding the tax consequences of Life or Senior Settlements. However, this does not always mean that the proceeds of a senior settlement/life settlement are tax free.
There are differing opinions about the tax consequences of the amount you receive over your basis (the amount you've paid to the insurance company over the years with respect to the particular life insurance policy, less any money you've received back such as dividends.) General opinion is that:
- Proceeds equal to your basis in the policy (also known as "cost basis"): no tax
- The proceeds in excess of your cost basis to a maximum of an amount equal to the cash surrender value, are taxable as ordinary income.
- Any excess above the cash surrender value is taxed as a capital gain.
For example, if you sell a life insurance policy as a senior settlement with the following facts:
- Sale price: $750,000
- Cash surrender value: $500,000
- Premiums paid over the years for the policy ("cost basis"): $300,000
- Presumed tax is:
- No tax on $300,000 which represents your cost basis
- The difference between the cost basis ($300,000) and the cash surrender value ($500,000) =$200,000 is taxed as ordinary income
- The difference between $500,000 and $750,000 is taxed as a capital gain
If you are considering a life/senior settlement transaction it would be worthwhile to get professional advice from a tax professional or attorney.
STATE TAX OF SALE ON A LIFE INSURANCE POLICY AS A SENIOR SETTLEMENT/LIFE SETTLEMENT
No state has yet to specifically address the tax implications of a senior/life settlement.
If you live in a state with no tax: obviously, there is no state tax.
If you live in a state which mirrors the federal tax law: see the above section about federal tax law to help determine if you owe a state tax.
If you live in a state which doesn’t mirror the federal tax law: Speak with your tax advisor for guidance if you enter into such a transaction.
NOTE: We are not tax advisors. We recommend that you obtain legal and financial advice to determine the tax and ohter consequences to you resulting from entering into a Senior Settlement or Life Settlement.