A: A single premium life insurance policy generally is treated in the same manner as a multiple-premium life insurance policy for income tax purposes.
Cash Surrender Value and Death Proceeds
For all life insurance policies that meet the definition of life insurance, cash surrender value increases generally are not taxed until received and death proceeds generally are received income tax free.
Life Insurance Policy Loans
The tax treatment of policy loans depends on whether the policy is treated as a modified endowment contract (“MEC”). Most single premium policies are considered MECs; policies entered into on or after June 21, 1988, that do not meet the seven pay test of IRC Section 7702A(b) are classified as MECs.
Loans from MECs are taxable as income at the time received to the extent that the cash value of the contract immediately before the payment exceeds the investment in the contract. These distributions also may be subject to a penalty tax of 10 percent.