Practice Quiz

Health and Life Insurance

Category - Tax Issues

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If a life insurance policy lapses due to nonpayment of premiums or from borrowing too much from the policy, all policy loans are treated as being "forgiven" by the IRS, meaning that the loan is no longer considered to be a loan and the funds are not required to be paid back. In this case, then, forgiven loan amounts are treated as __________.
  1. Dividends that are taxable to the policy holder
  2. Tax free withdrawals to the policy holder
  3. Ordinary and taxable income to the policy holder
  4. Additional premium payments to the policy holder
Explanation
Answer: C - If a life insurance policy lapses due to nonpayment of premiums or from borrowing too much from the policy, all policy loans are treated as being forgiven by the IRS. A forgiven policy loan means that the loan is no longer considered to be a loan, and the funds are not required to be paid back. Forgiven loans are treated as ordinary income and are thus subject to taxes.
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