What is the name for an overfunded life insurance policy?

What is the name for an overfunded life insurance policy?

• A. Endowment Policy
• B. Modified Endowment Contract (MEC)
• C. Universal Life Policy
• D. Variable Universal Life Policy

Answer: (B)

An overfunded life insurance policy is referred to as a Modified Endowment Contract (MEC). This term applies specifically when a life insurance policy has been funded with premiums that exceed certain limits established by the Internal Revenue Code. When a policy is classified as a MEC, it loses some of the favorable tax treatment typically associated with life insurance. More precisely, if the policy exceeds the seven-pay test (a guideline that dictates how much premium can be paid into a policy in the first seven years), it will be classified as a MEC. This means that any withdrawals or loans taken against the policy may be subject to income tax and, if taken before the insured reaches age 59 ½, could also incur penalties. It's crucial for policyholders to understand the implications of owning a MEC, especially in relation to taxation on distributions. In contrast, terms like Endowment Policy generally refer to a product that provides a maturity benefit after a certain period or upon death. Universal Life and Variable Universal Life Policies provide flexibility in premium payments and death benefits but do not inherently denote overfunding like a MEC does. Hence, the classification as a Modified Endowment Contract accurately captures the nuances of overfunding in life insurance policies.

An overfunded life insurance policy is referred to as a Modified Endowment Contract (MEC). This term applies specifically when a life insurance policy has been funded with premiums that exceed certain limits established by the Internal Revenue Code. When a policy is classified as a MEC, it loses some of the favorable tax treatment typically associated with life insurance.

More precisely, if the policy exceeds the seven-pay test (a guideline that dictates how much premium can be paid into a policy in the first seven years), it will be classified as a MEC. This means that any withdrawals or loans taken against the policy may be subject to income tax and, if taken before the insured reaches age 59 ½, could also incur penalties. It's crucial for policyholders to understand the implications of owning a MEC, especially in relation to taxation on distributions.

In contrast, terms like Endowment Policy generally refer to a product that provides a maturity benefit after a certain period or upon death. Universal Life and Variable Universal Life Policies provide flexibility in premium payments and death benefits but do not inherently denote overfunding like a MEC does. Hence, the classification as a Modified Endowment Contract accurately captures the nuances of overfunding in life insurance policies.