The big new federal spending package — the Consolidated Appropriations Act, 2021 (CAA 2021) package — includes a section that could change when the Internal Revenue Services classifies a financial arrangement as life insurance.
The section would replace two fixed interest rate benchmarks used in life insurance-related tax calculations with variable rates.
The change could affect whether some clients end up with big, unexpected tax bills because the IRS classifies a product that originally looked like a life insurance policy as a modified endowment contract, or as a product that qualifies for no life insurance-related tax breaks.
- A collection of documents related to the CAA 2021 spending package, including Rules Committee Print 116-68, is available here.
- An article about a health broker compensation provision is available here.
Congress added cash value accumulation standards for life insurance policies to the Internal Revenue Code in an effort to keep people from calling ordinary investment arrangements life insurance policies.
CAA 2021 drafters put the new life insurance minimum rate provision in Division EE, Title II, Section 205.
Section 205 would change the minimum interest rate used in life insurance policy cash value accumulation tests to “the applicable minimum test rate,” from 4% today.
Section 205 would also change a minimum rate used in analyzing life insurance policy premiums to an “applicable guideline premium rate,” from 6% today.
Section 205 would make the maximum “applicable minimum test rate” 4%.
If a new benchmark rate called the “Section 7702 applicable federal interest rate” were lower, then the minimum test rate would be either a benchmark rate developed by the National Association of Insurance Commissioners, which is based on corporate bond rates, or the Section 7702 applicable federal interest rate, if the applicable federal interest rate were lower.
The section defines the “Section 7702 applicable federal interest rate” as being a rate based on the “applicable federal mid-term rates.” The “applicable federal mid-term rates” are part of a set of interest rate benchmarks that the Internal Revenue Service updates every month.
The “applicable guideline premium rate” would be 2 percentage points higher than the minimum test rate, according to the section text.
Congress has approved the package and sent it to President Donald Trump. The president can choose whether to sign the bill containing the package or veto it. If the president decides to veto the bill, Congress could overturn the veto, send the president a revised bill, or face the prospects that parts of the government could suspend operations after Dec. 28.
— Read Cash Value Accumulation Test or Guideline Premium Test: A Comparison, on ThinkAdvisor.