Recent Court Case Identifies An Obvious Tax Liability: One TOLI Trustees Sometimes Miss

A recent US Tax Court Memo identifies the financial risk in unwittingly or intentionally mismanaging a life insurance policy. In 1987, a policy owner purchased a single premium variable life policy (since this was pre Code Section 7702A, it was not considered a modified endowment contract) with a payment of $87,500. The policy contract permitted the owner to take loans from the policy, allowing any unpaid loans and interest that accrued to be added to the “policy debt.” Once the policy debt exceeded the cash value of the policy, the carrier could terminate the policy after giving the policy owner notice and the opportunity to pay down the policy debt to avoid termination.