Federal Tax Considerations for Life Insurance and Annuities

What is the main purpose of the Seven-pay Test?

It determines if the insurance policy is an MEC

What is the tax consequence of amounts received from a Traditional IRA after the money was left in the tax-deferred account by the beneficiary?

Income tax on distributions and no penalty

What part of the Internal Revenue Code allows an owner of a life insurance policy or annuity to exchange or replace their current contract with another without creating adverse tax consequences?

Section 1035 Policy Exchange

Which of the following is NOT true of Section 1035 Policy Exchanges?

Any exchange made under Section 1035 of the Internal Revenue Code must be completed within 30 days

Which of the following terms is used to name the non taxed return of unused premiums?

Dividend

An insured has a Modified Endowment Contract. He wants to withdraw some money in order to pay medical bills. Which of the following is true?

He will have to pay a penalty if he is younger than 59 1/2

Which of the following is true regarding taxation of accelerated benefits under a life insurance policy?

They are tax free to terminally ill insured

What is the penalty for IRA distributions that are below the required minimum for the year?

50%

An IRA uses immediate annuities to pay out benefits; the IRA owner is nearly 75 years old when he decides to collect distributions. What kind of penalty would the IRA owner pay?

50% tax on the amount not distributed as required

An employee quits her job where she has a balance of $10,000 in her qualified plan. If she decides to do a direct transfer from her plan to a Traditional IRA, how much will be transferred from one plan administrator to another and what is the tax consequence of a direct transfer?

$10,000, no tax consequence

If $100,000 of life insurance proceeds were used in a settlement option, which paid $13,000 per year for ten years, which of the following would be taxable annually?

$3,000

When contributions to an immediate annuity are made with before-tax dollars, which of the following is true of the distributions?

Distributions are taxable

Which of the below statements i FALSE concerning a Modified Endowment Contract (MEC)?

The policy holder can receive distributions at any time without being penalized

Which of the following describes the taxation of an annuity when money is withdrawn during the accumulation phase?

Withdrawn amounts are taxed on a last in, first out basis

If a life insurance policy develops cash value faster than a seven-pay whole life contract, it is

A Modified Endowment Contract

In a direct rollover, how is the money transferred from one plan to the new one?

From trustee to trustee

Which of the below statements is FALSE concerning a Modified Endowment Contract (MEC)?

The policy holder can receive distributions at any time without being penalized

An insured decides to surrender his $100,000 Whole Life policy. The premiums paid into the policy added up to $15,000. At policy surrender, the cash surrender value was $18,000. What part of the surrender value would be income taxable?

$3,000 (The difference between the premiums paid and the cash value would be taxable. In this example, the difference between-the premiums paid $15,000 and the cash value $18,000-is $3,000.

In life insurance policies, cash value increases

Grow tax deferred

Who can make a fully deductible contribution to a traditional IRA?

An individual not covered by an employer-sponsored plan who has earned income

An immediate annuity purchased with the face amount at death or with the cash value at surrender can be referred as which one of the following?

Settlement option

An individual has been diagnosed with Alzheimer's disease. He is insured under a life insurance policy with the accelerated benefits rider. Which of the following is true regarding taxation of the accelerated benefits?

A portion of the benefit up to a limit is tax free; the rest is taxable income

Which of the following is NOT an allowable 1035 exchange?

A whole life insurance policy is exchanged for a term insurance policy

For an individual who is NOT covered by an employer-sponsored plan, IRA contributions are

Tax deductible

If an insured surrenders his life insurance policy, which statement is true regarding the cash value of the policy?

It is only taxable if the cash value exceeds the amount paid for premiums

Randy transfers his life insurance policy to his son Andy two years before Randy's death. Which of the following is true?

The entire face value of the policy will be included in Randy's taxable estate

An employee quits her job where she has a balance of $10,000 in her qualified plan. The balance was paid out directly to the employee in order for her to move the funds to a new account. If she decides to rollover her plan to a Traditional IRA, how much will she receive from the plan administrator and how long does she have to complete the tax-free rollover?

$8,000, 60 days

When must an IRA be completely distributed when a beneficiary is not named?

December 31 of the year that contains the fifth anniversary of the owner's death

Life insurance death proceeds are

Generally not taxed as income

When a beneficiary receives payments consisting of both principal and interest portions, which parts are taxable as income?

Interest only

Which of the following is NOT true regarding policy loans?

Money borrowed from the cash value is taxable

Death benefits payable to a beneficiary under a life insurance policy are generally

Not subject to income taxation by the Federal Government

An insured had paid only part of her total number of IRA premiums before she died. What effect will this have on the insured's estate?

Only the premiums paid will be included in the estate

An applicant buys a non qualified annuity, but dies before the starting date. For which of the following beneficiaries would the contract's interest NOT be taxable?

Spouse

What type of annuity activity will cause immediate taxation of the interest earned?

Surrendering the annuity for cash

During the accumulation period in a non qualified annuity, what are the tax consequences of a withdrawal?

Taxable interest will be withdrawn first and the 10% penalty will be imposed if under age 59 1/2

An annuitant dies before the effective date of a purchased annuity. Assuming that the annuitant's wife is the beneficiary, what will occur?

The interest will continue to accumulate tax deferred.

A policy owner cancels his life policy but instructs the insurance company to transfer the cash value of his policy to an annuity. This nontaxable transaction is called

1035 exchange

Which of the following is true regarding dividend-related taxation?

Dividends are not taxable