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in the absence of policy loans) the status of these simul
taneous property rights is clarified and the policyholder's interest in the accumulated reserve under the policy is
extinguished. According to the Report, of crucial analytical significance in this very common scenario is the fact
that the policyholder will never have received any of the
increase in the value of his life insurance upon which the
Administration's proposal would impose a tax.
The Report concludes that, in effect, the Administra
tion's proposal assumes that every policy is eventually
an assumption contradicted by fact each time
a policy matures.
To impose a tax on the policyholder
based on this faulty assumption is, according to the
Only last year, Congress thoroughly examined life insurance and set stringent standards to assure that life insurance policies are not used to cloak investments and that only those policies designed to provide insurance protection qualify as life insurance for tax purposes.
The Administration argues that a new tax on life
insurance is warranted because insurance may be designed as
a tax-favored investment for the benefit of individuals in
high tax brackets.
To prevent this, and to achieve "tax
neutrality" with other investment vehicles, the Administra
tion urges that life insurance policyholders should be subject to a new tax on the increase in the value of their
permanent life insurance,
The Administration's argument ignores the major over
haul of life insurance taxation made by Congress only last
In enacting DEFRA in 1984, Congress made a thorough
study of life insurance.
It recognized that while most
permanent life insurance policies were designed to provide
protection in the event of death, some were so heavily
ance protection. These guidelines include a cash value accumulation test and, in the alternative, guideline
premium and cash value corridor requirements.
deemed "investment oriented" in the judgment of Congress
now are not eligible for tax treatment as life insurance.
In making its current proposal, the Administration is
resurrecting a problem that was considered exhaustively by
Congress last year and effectively resolved.
In enacting DEFRA, the Administration agreed that the narrowing of the definition of life insurance created all the more reason for not taxing policyholders on the unrealized increase in the value of their life insurance.
Only recently, the Administration agreed that, with the
tightening of the definition of life insurance and the
placing of narrower limits on the investment orientation of
policies, there was more reason for continuing the longstanding policy of not taxing policyholders on the socalled "inside buildup" in their policies. In 1983, John
E. Chapoton, then Assistant Secretary of the Treasury for
...(T}he treatment of sinside buildup bears) an
Tax Treatment of Life Insurance; Hearings Before
In accordance with the Administration's position at the
time, the definition of life insurance was tightened and
narrower limits on the investment orientation of life
insurance policies were adopted in 1984.
Permanent life insurance is a unique product designed to provide individuals with fixed-cost lifetime protection, not as an investment vehicle. The Administration's proposal is, in effect, an 'age-indexed
which would penalize future generations of older Americans.
The value in a permanent life insurance policy is a
by-product of the level premium method of paying for life
insurance. Basically, level premium policies were developed as a means by which policyholders spread the total cost of their life insurance evenly over the duration of their policies. This avoids the sharp increase in premiums
that otherwise would occur as the insured individual grows
older, to reflect the fact that the probability of death,
long-term protection against the risk of death feasible and
has made permanent life insurance a staple for American
It is sometimes suggested that the same benefit can be
obtained by purchasing term insurance.
This ignores the
of term insurance for all but the wealthiest people becomes
Term insurance is not a satisfactory
alternative to permanent life insurance, especially as
individuals grow older.
The dramatic increase with age in the cost of term
insurance may be illustrated by reference to a typical
premium for a $25,000 one-year renewable term life insur
This problem as applied to veterans' life insurance has
been a major concern to the Veterans Administration.
advising veterans of the problem, the Veterans Administra
tion has stated:
Although the initial cost of term insurance is
... In addition to alerting our policyholders to the