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Understanding the Impact of Changes to Section 7702 on Life Insurance Policies

The Consolidated Appropriations Act of 2021 impacts section 7702 of the Internal Revenue Code (IRC). To best understand the subject, historical background may be helpful. Section 7702 of the IRC impacted life insurance policies purchased in and after 1984. Basically, the IRC wanted to create clear distinctions as to the differences between a life insurance contract and an investment contract. The death benefit of a life insurance contract is, generally, not subject to ordinary income taxation, and increases in cash value within the life policy are also not subject to ordinary income tax.

  • Cash Value Accumulation Test (CVAT)
    Under IRC 7702, life insurance needs to pass one of several tests. We will begin with the Cash Value Accumulation Test (CVAT). As with the other tests, the goal is to determine that what is claimed to be a life insurance policy is not, in reality, an investment contract. In this test, the focus is on the cash value of the policy. The mathematical calculations of CVAT are complex. Basically, it is a determination that the cash value of a life policy does not exceed the present value of future premiums. Stated differently, you cannot pay too much money into the policy and create too much cash value, and if you do, you will create an investment contract. An investment contract will not have the same tax rules as a life insurance policy.
  • Guideline Premium and Corridor Test (GPT)
    The Guideline Premium and Corridor Test, unlike CVAT, is focused on the premium amount. The goal of GPT is the same as the goal of CVAT, which is to determine if what is claimed as a life insurance policy is not an investment contract. GPT does so by limiting the amount of premium that can be paid into the policy in order that the policy has enough death benefit risk for the amount of accumulated cash value—for example, limiting the amount of premium per one dollar of death benefit.
  • 7-Pay Test
    Simply stated, a life policy cannot receive premiums more than the total premiums necessary to pay-up a life policy within seven years. Doing so will result in what is referred to as a Modified Endowment Contract (MEC), which will result in changes in the IRC rules otherwise applied to non-Modified Endowment life policies.
  • The Impact
    The important 2021 change in Section 7702 is the determination of the interest rates used in the CVAT, GPT, and 7-Pay calculations. These reduced rates allow more premium to be paid into a policy before it becomes a MEC, allowing for more cash value growth potential. The 7702 regulatory change became effective on January 1, 2021, and will not impact policies in-force prior to that date. The January 1, 2021 effective date is followed by a transition period, and the earliest transition period will expire on December 31, 2021. Sometime after that, the new rate rules will apply.

If you would like additional material on this topic, please contact the AIPMA Business Development team at (800) 783-5206 Press #2 or email

Disclaimer: Information considered accurate but not guaranteed and subject to change without notice. Every consumer's financial goals are unique. Therefore, nothing herein should be the basis for a purchasing decision. The complete detail of Section 7702 can be complex, and this material should be considered a minimal synopsis. Tax and legal questions or concerns should be addressed to the reader's tax/legal professional.

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