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Life Settlements
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Potential Tax Implications of a Life Settlement |
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The taxation for a life settlement transaction can be very complicated. We will
attempt to provide a general guideline that has been used in past transactions,
however we cannot stress enough that each case can be treated differently by the
IRS. Professional tax advice should be sought.
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Quick Definitions
- CSV = Cash Surrender Value
- Cost Basis = Total dollar amount of premiums paid into the policy
- Settlement Amount = Purchase price paid to policy owner/seller for the sale
of the policy
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- If there is no CSV or if the CSV is lower than the cost basis in the policy, then
the taxable income is the dollar difference between the settlement amount minus
the cost basis of the policy. That amount is treated as a capital gain.
Capital Gains Tax = Settlement Amount – Cost Basis
- If the CSV is higher than the cost basis, then that difference is treated as ordinary
income and taxed according to the policy owners tax bracket. Then the difference
between the settlement amount and the CSV is treated as a capital gain.
Ordinary Income Tax = CSV – Cost Basis
Capital Gains Tax = Settlement Amount – CSV
- If the cost basis in the policy is actually higher than the settlement amount, then
there should not be any taxable income from the transaction.
No Taxable Income = Settlement Amount – Cost Basis = ( – ) Negative Value
(Loss)
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Please remember that these are general guidelines and cannot be relied upon as fact.
The tax implications of a settlement should be considered prior to the transaction.
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Mountain Financial strongly recommends that a policy owner seek professional tax
advice prior to accepting any offers.
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Additional Affects |
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Receipt of payment under a life settlement may affect your eligibility for public
assistance programs, such as medical assistance (Medicaid), aid to families with
dependent children, supplementary social security income, and AIDS drug assistance
programs; and it also may be taxable and subject to claims of your creditors. Before
applying for a life settlement, you should consult with the appropriate social services
agency concerning how receipt could affect your eligibility and that of your spouse
or dependents; and because of the potential tax consequences, please consult with
a tax advisor.
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Entering into a life settlement contract may cause other rights or benefits such
as disability waiver of premium benefits that may exist to be forfeited by the owner;
assistance should be sought from a financial advisor before pursuing and completing
this transaction.
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