How to Convert Life Insurance Cash to Annuities
Sometimes people find that the insurance protection from their cash value life insurance is no longer necessary. In these cases, they want to access the cash value or put it to work in a higher paying vehicle. While the insured should consider some of the benefits of the cash value policy, there is a special way to transfer funds if the situation warrants converting the cash. There are tax repercussions if you don't follow the procedure correctly.
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Instructions
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Examine your reason for the conversion. While you may make more money from an annuity, you also could face a bad decision for heirs. There is no income tax on the growth of a life insurance policy in all states and some states don't include it in the estate if it has a named beneficiary, unlike an annuity.
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Discuss all your options and the tax ramifications with your insurance representative. If you simply want a small supplemental income, consider borrowing from the cash value. This leaves the policy in place for a surviving spouse once you lose your Social Security.
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Consider borrowing the funds out and leaving the policy intact. This offers you the ability to use the dollars tax-free and still keep the policy intact.
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Fill out the paperwork for the annuity. Make certain that your representative includes a replacement form and a 1035 transfer form. The 1035 transfer form guarantees that your policy cash transfers tax-free. The rules are from section 1035 of the tax code. Make certain the ownership remains the same.
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Ask for a copy of all paperwork. In the event of an audit later, you'll need to have the papers showing a transfer on hand.
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Note the amount that you paid into the life insurance policy. For tax purposes, when you take the funds out of the annuity, this is your basis. If you had a loan on the policy, there's a gain that amount is taxable when you do the transfer.
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Tips & Warnings
Always discuss the tax ramifications with your financial adviser.
