Potential Tax Implications of a Life Settlement

SCH Disclaimer

• The following is provided for informational purposes only.
• The taxation of a life settlement may vary on a state by state basis.
• Advice from a professional tax advisor is recommended.

The taxation for a life settlement transaction can be very complicated. We will attempt to provide a general guideline that has been used in past transactions, however we cannot stress enough that each case can be treated differently by the IRS. Again, professional tax advice must be sought.

GLOSSARY

• CSV = Cash Surrender Value
• Cost Basis = Total dollar amount of premiums paid into the policy
• Settlement Amount = Purchase price paid to policy owner/seller for the sale of the policy

1. If there is no CSV or if the CSV is lower than the cost basis in the policy, then the taxable income is the dollar difference between the settlement amount minus the cost basis of the policy. That amount is treated as a capital gain.
   Capital Gains Tax = Settlement Amount - Cost Basis
2. If the CSV is higher than the cost basis, then that difference is treated as ordinary income and taxed according to the policy owner’s tax bracket. Then the difference between the settlement amount and the CSV is treated as a capital gain.
   Ordinary Income Tax = CSV - Cost Basis
   Capital Gains Tax = Settlement Amount - CSV
3. If the cost basis in the policy is actually higher than the settlement amount, then there should not be any taxable income from the transaction.
   No Taxable Income = Settlement Amount - Cost Basis = ( - ) Negative Value (Loss)

Please remember that these are general guidelines and cannot be relied upon as fact. The tax implications of a settlement should be considered prior to the transaction. Contact your professional tax advisor for more information.

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