Consumers can exchange tax free old life insurance policies or annuities for long-term care insurance (LTCI) policies, under a 2006 law that became effective Jan. 1, 2010. Unfortunately, few people have been able to take advantage of the law.
The idea behind the law is to give another option to people with cash value life insurance policies or deferred annuities that no longer are needed. For many decades section 1035 of the tax code allowed the cash value life insurance to be exchanged tax-free for another life policy or an annuity. An annuity could be exchanged tax-free for another annuity. The new law allows either type of policy to be swapped tax-free for LTCI.
Once the law went into effect, however, financial services firms discovered problems and unanswered questions.
LTCI policies usually are bought with annual premiums. To exchange an existing life insurance policy or annuity for LTCI, however, would be a single premium transaction. Insurers haven’t decided how to price LTCI with a single premium.
An alternative would be to make the exchange in increments each year. Annual exchanges, however, would be tedious and require a lot of paperwork.
In fact, even a one-time exchange requires a lot of paperwork. Brokers and insurers are questioning whether the opportunity is worth all the administrative costs.
Regulations are another obstacle. Brokers have to ensure a policy is suitable for the consumer before selling it. It isn’t clear if the suitability review has to be performed each year when partial exchanges are executed. Licenses are another issue. To do an exchange, a broker probably has to have a license to handle all the types of policies involved in the exchange and needs a securities license if a variable annuity or life insurance policy is involved.
The best solution is to exchange an old life policy for a combo life insurance policy or annuity – one with an LTC rider. If there isn’t enough cash value in the old policy to be able to buy the coverage you want in the combo policy you’ll have to add cash.