A life insurance policy becomes a modified endowment contract (MEC) when it:
Explanation
A policy is classified as a MEC if the cumulative premiums paid in the early years exceed the limits set by the seven-pay test, meaning it was funded too fast relative to its death benefit. Being term insurance, paying dividends, or naming a contingent beneficiary does not create a MEC. The MEC rules were enacted to stop people from overfunding life insurance purely as a tax shelter, and once a policy is a MEC its living distributions lose favorable tax treatment.
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Related questions on this topic
- In a nonqualified deferred annuity, how are withdrawals taxed during the accumulation phase under the standard tax rule?
- Life insurance proceeds may be pulled into the insured's taxable estate for federal estate tax purposes if, at death, the insured held:
- The 'transfer-for-value' rule can cause a normally income-tax-free death benefit to become partly taxable when:
- Once a policy is classified as a modified endowment contract (MEC), distributions taken during the insured's life, such as loans and withdrawals, are:
- A Section 1035 exchange allows a policyowner to:
- Which of the following is a permissible tax-free Section 1035 exchange?
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