A 1035 exchange is tax-free. In this episode, I'm going to address the
question "Can I replace an old life insurance policy with a new one tax-free?"
Now, the short answer is yes but you must adhere to certain very critical rules.
I'm Doug Andrew and I've been a financial strategist for north of 46
years. I've helped many people analyze whether they should keep their existing
insurance contracts or annuity contracts. And maybe consider a new one and when by
doing an in-depth analysis. We call these audits. Many times we have audited our
own clients insurance policies annually. I would recommend at least every five
years that you have your insurance policy audited maybe by someone other
than the agent who issued it in the first place if you want to get a second
opinion. This is what's critical. Whenever you do a 1035 exchange, you want to
preserve the tax-free accumulation that any ground that you have gained in the
existing old policy and make sure it rolls over, it converts it transfers to
the new policy. Section 1035 of the Internal Revenue Code with insurance is
very much like 1031 exchanges in real estate where you sell a like property of
real estate, you buy a new one of like property and you can transfer the
capital gain. You don't have to pay the capital gain tax. It moves and you don't
have to pay that tax because it transfers into the new property. In the
same fashion, a life insurance policy can be exchanged for a like-type of
instrument, another life insurance policy. It can go from whole life to
universal life or variable life to indexed universal life. You cannot take
it from an annuity to insurance. Because that's not a liked instrument. Now, there
are some other rules that apply when you do this because if you're going to
exchange it, you're trying to preserve any accumulation, any tax-free gain so
you don't trigger unnecessary tax when you do this. Because here is what some
agents don't realize and they trigger unnecessary tax when they say, "Oh, just
cancel that policy and take out this new one." What do I mean by taking the money
from one policy to another and not touching it? See, if you were to surrender
that policy or just cancel it and you were to take receipt in a check and put
it in your bank account or whatever or even if you endorsed the back of it and
sent it to the new insurance company, the IRS can come in and say, "I know you took
receipt of that. You're going to have to pay tax on any gain", if there was a gain. So,
let's say for the 5, 10, 15, 20 years or more that maybe you owned this old
policy. You paid premiums of 500,000. And if it had a gain, if it's worth 7 or
8 hundred thousand or a million, if you took receipt of that, you'd have to
pay tax on the gain over and above your basis that you put into that. But not if
you do a 1035 exchange. That means the cash value just simply is transferred
from this insurance company over to the new insurance company in that policy. You
don't touch the money. That is done between insurance companies. They receive
1035 exchange requests all the time. They know how to do this. And
therefore, you do not have to pay unnecessary tax and all the ground that
you gained here tax-free transfers over to the new one. And the basis that you
put in and all of the room that you already used with the various tax
citations rolls into the new policy. So, let me share with you
one of the rules that many insurance agents don't stop to consider. So, let me
use an example that you have an old insurance policy. And maybe you designed
it originally primarily for death benefit but you wanted to use it for
income emergencies or what-have-you. but then you learned about how to max fund
an indexed universal life. And your old policy has only been performing at 6,
7 or 8 percent or maybe it's a whole life policy. And the dividend rates
and so forth they've only been 6 or 7 percent. And so, you're only
netting maybe 4 or 5 percent at best. You learned that a maximum-funded
indexed universal life insurance policy can earn 11 and net 10 which is
what I have averaged for more than 25 years now. So, you want to
have the newer policy because you can participate when the market does well,
not lose when the market goes down. That's what indexing does. I have other
episodes that explains that. So, you're trying to improve the liquidity of your
money, the safety and the rate of return so that the new one when it has a
million dollars of cash value can generate more like a $100,000
a year of tax-free income for as long as you live instead of the old
policy if it grew to a million. IF it grows to a million. I add best it might
only generate 40,000 a year of tax-free income. What would you rather have?
40,000 or 100,000. Hello? So, that warrants a 1035 exchange. Now, you
can just take the existing cash values of the old policy and put them into the
new one. But then, if you want to continue to maximum fund, put new money into the
new one for another 5 or 10 years, you don't have to but if you wanted to,
you would have to start over with the Tamra law on much of the new money
because you have to wait 5 years before you meet the Tamra qualification
with universal life. With whole life, it's called 7 pay. It takes
7 years. So, let's say the old policy. You could have put in a maximum
amount of let's say 500,000. But you only put in 200,000. You have 300,000 of room
that you never used. Well, if you have 300,000 or more that you want to put
into a new one, it would behoove you to put it in the old one first. Why? People
say, "Well, why would I do that? It's underperforming." Because if you put the
300,000 in that you could have put in or whatever the amount is and a
professional can help you calculate this, you put it in the old one. And
immediately do a 1035 within days or a month over to the new one.
You hit the ground running. Now, the new one has way more money in it that was
grandfathered under the old policy's limits and you hit the ground running.
And if you have any room left, golly, you could probably totally maximum-fund that
in 1 or 2 more years instead of waiting maybe four or five years to do
it. There's a lot of licensed insurance agents that do not know about what I
just explained. So, when you ask the question "Can I exchange? Can I replace
trade out? --an old policy for a new one?' Yes. Under a 1035, it's totally
tax-free. But there's more to consider than just can you do it. You want to
analyze is it wise and how much room do I have that I can 1035 buy maximum
funding maybe the old one before I transfer the money to the new one. It
makes all the difference in the world as far as your growth and how fast you can
start accessing money totally tax-free. This very reason, I have authored many
books that teach and educate people who want to learn. And I published 11 so
far. I'm working on my 12th one. Book number eleven has been a best-seller
right off the bat. And I would love to gift you a free copy of this book. It's
called The Laser Fund. The laser is an acronym that stands for liquid assets
safely earning returns. Whenever you do a 1035 exchange,
you want to increase the liquidity, safety and rate of return and the tax
benefits on the new policy. And that's what I've been explaining. If you want to
learn about this, this book retails for 20 bucks but I will gift you one free.
You just pay $5.95 shipping and handling. And this 300-paged
book is yours. It's actually got 14 chapters on this side that have
charts and graphs. But you flip the book over, this side has twelve chapters with
62 actual clients stories. And so, to get your free copy, you can claim it
by going to laserfund, L-A-S-E-R, laserfund.com. You pay $5.95 shipping
and handling I'll send one out to you. There's also options if you like to
listen and learn or watch and learn for audio and video content that will help
you understand this dynamic concept.