What if there was a way to increase the death benefit and reduce the premiums on an in-force life insurance policy?
How do you upgrade to a better life insurance policy without losing your investment? If you cash out your old policy, you may owe taxes on those funds, even if you take out a new policy that same day. Fortunately, a Section 1035 Exchange lets you transfer funds from one policy to another tax free.
What Is a 1035 Exchange?
“Section 1035” refers to a provision in the Internal Revenue Code allowing direct transfer of accumulated funds from one life insurance or annuity policy to another with no tax liability. The option of making a 1035 Exchange gives you more power as a consumer by letting you change insurers for free (note: the original policy still may have surrender charges if within the surrender period).
IRS Guidelines
The IRS has strict guidelines covering 1035 Exchanges:
The owner, insured, and annuitant must not change (unless one of the original insureds has died–Survivorship policy).
The contract must be directly exchanged between insurance companies. You cannot cash out and then reinvest.
Multiple contracts can be merged into one during the exchange, but one contract cannot typically be broken up into many.
There are multiple forms required when completing a 1035 Exchange including assignment, surrender, owner and beneficiary forms.
The Contestability Period (2-years) starts over on a new policy
Conclusion
Reviewing an existing life insurance policy every year is a good idea. It’s important to consult with a reputable licensed insurance group that represents many top-rated carriers. They can help determine if a 1035 Exchange is prudent. And it’s always best to include the council of CPA’s and attorneys when dealing with advanced tax planning topics.
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A Quick Guide to a 1035 Exchange
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