Selling your life insurance policy can be a great way to free up some extra cash when you need it. If you are paying premiums on a life insurance policy, are at least 65 years old, you could sell your life insurance policy. While you are free to sell your policy, there are some tax considerations to take into account. Here’s what you should know about the taxation of a life settlement policy sale.
Why Sell Your Life Insurance Policy?
Why should anyone sell their life insurance policy after paying premiums year after year? As it turns out, there are plenty of compelling reasons to sell your life insurance policy after reaching age 65.
Some people pursue a life settlement because they have to. Being retired is a gamble, it puts a lot of financial stress on thousands of people. For example, if you find that you did not save enough money to retire as comfortably as you thought, you have bills piling up or simply want to enjoy the rest of your life without financial burdens, you could sell your life insurance policy for cash.
Why stay cooped up in a cramped one-level home when you could be living in style? After all, you faithfully paid premiums for your policy for all those years. Why shouldn’t you take advantage of all that money and enjoy it while there’s still time? The truth is, there’s no reason not to!
As long as you make yourself aware of how your life settlement sale will be taxed, you’ve got everything to gain and nothing to lose. Calculating How Life Settlements Are Taxed
In order to figure out how much money you will have to pay in taxes after selling your life insurance policy, you will need to understand the formula and this will vary based on the state you live in.
If you want to determine how much you will be taxed on the sale of your life insurance policy, you can use the following formula. The amount of money you will be taxed on a life settlement is calculated by subtracting the cumulative premium payments from the sale price.
Let’s go over a simple example in the following scenario. Say that you have a life insurance policy with a cash surrender value of $85,000. Now consider the hypothetical fact that you have paid a total of $65,000 in premiums to date which would be what you would call your tax basis. Finally, let’s say for the sake of argument that you received a payment of $110,000 for your life settlement transaction.
Life Insurance Policy Cash Surrender Value: $85,000
Total Premiums Paid by Policy Holders (Tax Basis): $65,000
Amount Received in Life Settlement Transaction: $110,000
In this case, you would subtract $65,000 from $110,000 which would yield a taxable income of $45,000.
The calculation is not yet complete, now that you have the correct amount for ordinary taxable income, it’s time to calculate how much you will need to pay in long-term capital gains.
You can calculate the amount that will be counted as long-term capital gains by subtracting the tax basis from the cash value of your policy. The tax basis is the same as the amount of money that you have already paid on your policy in terms of premiums.
As such, ($45,000-$25,000=$20,000) is the amount that will be taxed as long-term capital gains. Considering how much money you will make by selling your life insurance policy, the amount you will pay in taxes seems somewhat trivial. As taxes vary by state you should contact a tax professional to determine how this affects you based on where you live.
Don’t let the taxes discourage you, there will still be plenty of money left over. That’s money that you could be using to cover medical expenses or fund a much more comfortable retirement.
How the Tax Cuts and Jobs Act of 2017 Affects the Taxation of Life Settlements
Anyone thinking about selling their life insurance policy should take time to familiarize themselves with The Tax Cuts and Jobs Act of 2017. How does it affect you? The most important thing to know is that it has made it easier to calculate the amount that you will be taxed for a life settlement sale.
The Tax Cuts and Jobs Act of 2017 resulted in a long-term capital gains tax that was significantly lower. The less you pay in long-term capital gains, the more money you get to keep from the sale of your policy and use as you please.
Is Selling Your Life Insurance Policy a Good Idea?
Now that you know more about how the sale of life insurance policies are taxed, you might be wondering if it would be a good idea to pursue a life settlement. For most seniors, selling a life insurance policy can be extremely beneficial.
You’ll make a large sum of money in a relatively short amount of time. For some seniors, selling their life insurance policy can help them afford to live in a memory care community or a nursing home with medical assistance. Other seniors use the money to put towards a new house or a new vehicle. If you have medical issues and no longer want or need your life insurance policy, a life settlement in most cases, is a sensible idea. In summary, if you need or want a large amount of money in a short amount of time, selling your life insurance policy could be for you.
Working with MRE Finance
If you want to sell your life insurance policy for a life settlement but don’t know how to get started, you can count on the folks at MRE Finance. If you’re looking for guidance on how to sell your policy, give the licensed experts at MRE Finance a call at 1-800-521-0770 or get a free life settlement valuation of your policys potential value at mrefinance.com/free-life-settlement-calculator to get the ball rolling.
We help seniors sell their life insurance policies every day and they trust us to help them find the best value possible.
Start your financial freedom today with MRE Finance.