Happy 100th birthday! Here’s why you could end up with surprise taxes

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Uncle Sam has a birthday present for some people who turn 100: a tax bill.

This applies to those who have taken out so-called permanent life insurance to meet complex financial planning needs, including estate planning. These policies have a savings component, called cash value, which accumulates tax-free.

Your heirs generally receive a death benefit free of income tax if you die. But if you beat the insurance company by surviving to 100, your insurer could remove you from your policy, which could result in taxes.

“You’ve turned a death benefit without income tax into a tax bill, and it’s very likely that it will also pay less than the death benefit,” said Tom Love, vice president of insurance analytics. at Valmark Financial Group.

Here’s why your centenarian might be a little less sweet.

Mortality tables

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Insurance companies price their policies based on mortality tables, which measure the likelihood that a person of a certain age will die in a given year.

Although permanent life insurance is intended to remain in force for as long as you are alive and paying premiums – unlike term policies which typically last 20 or 30 years – these contracts have an expiry date which, historically, entered into force on the 100and birthday.

On that date, your insurance company will pay you the cash value and terminate your policy.

This amount could be less than the death benefits your heirs would have received.

You turned a death benefit without income tax into a tax bill, and chances are it will also pay less than the death benefit.

Tom Love

Vice President of Insurance Analytics at Valmark Financial Group

You will be taxed on the cash value to the extent that this proceeds exceed the amount of the premiums you paid.

Worst-case scenario, if you have a large loan on your 100-year policy, your debt will be forgiven, but you will still be liable for taxes on the cash value and the amount borrowed.

“The best ‘bad’ outcome is you pay the taxes, but at least you have money in the policy,” said Barry D. Flagg, certified financial planner and founder of Veralytic, a pricing and insurance publisher. life insurance research.

“The worst outcome is you don’t have the money, but you still owe the tax,” Flagg said. “In either case, you lose your life insurance.”

The problem with 100

According to Michael Lovendusky, vice president and associate general counsel of the American Council of Life Insurers, many permanent life insurance policies issued before 2004 have a maturity date of 100 years.

Over time, the number of centenarians has swelled.

“At the time these tables were set, it was something the industry wasn’t thinking about,” Love said.

“The chances of people living to 100 were actuarially insignificant,” he said.

Globally, there were nearly half a million people over the age of 100 in 2015, according to the Pew Research Center. This number is expected to reach nearly 3.7 million by 2050.

In the United States alone, there were 72,197 Americans aged 100 and over in 2014, according to the United States Centers for Disease Control and Prevention.

To accommodate the growing number of centenarians, state insurance commissioners in 2004 adopted an updated mortality table that pushed the maturity date of new policies to 121 years.

This means you can keep your cover intact well beyond your 100th birthday if you have one of these new policies.

Tax results

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