23 / Is interest earned on life insurance dividend accumulations currently taxable to the policyholder?

Yes. The interest must be included in the policyholder’s gross income for the first taxable year during which it can be withdrawn, whether it actually is withdrawn or not.¹ If the interest is credited annually and is subject to withdrawal annually, it constitutes gross income to the policyholder each year as it is credited to the policyholder’s account. But if the interest is withdrawable only on the anniversary date of the policy (or on some other specified date), it is gross income to the policyholder for the taxable year in which the anniversary date (or other specified date) falls.² The Tax Court has held that the interest can be included in the policyholder’s gross income only for the first taxable year in which the taxpayer either actually or constructively receives it (the first year it is withdrawable); thus, the IRS cannot include the interest in the policyholder’s gross income for a later year, even though the interest was not reported in the year it was constructively received. To tax the interest, IRS must reopen the policyholder’s return for the prior year.³