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Posted by Arthur on May 23, 2008, 10:26 am
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>
> > In 1989 my mother spent 10,000 dollars on a single premium insurance
> > policy. Every year, until 2004 she took out some amount which was (As
> > far as I can tell from the records) slightly less than the interest
> > amount she accrued. She decided to cash the whole thing in this year.
> > She received (before taxes) a little over 12K. However, the insurance
> > company is reporting her taxable gains as about 26K. looking at the
> > records the 26K = the total she took out, (+ 12K-10K) + the sum of
> > "Interest Capitalizations"* which total about 14.5K. As far as I can
> > tell, she never touched the "Interest Capitalizations" but they are
> > part of her "Loan Balance". Can anyone explain this? Will she have to
> > pay taxes on 26K worth of income? According to the records, they gave
> > her about 7K of the 5K and took the rest out for taxes already which
> > seems rather steep.
>
> > *The "Interest Capitalizations" are a series of figures which goes
> > approximately like this: (dollar figures)
> > 60, 129, 200, 277. 356, 432, 507, 587, 674, 768, 869, 857, 950, 1053,
> > 1,156, 1275, 1271, 1467. This looks like a running total of interest,
> > but it is the sum of these values that is used to determine the "loan
> > balance".
>
> She did "touch" the interest capitalizations, just not directly. It
> sounds as though every year she took a small withdrawal in the form of
> a loan. The insurance carrier charges interest on that loan balance
> because that treat the withdrawal as if it is still in the policy
> earning interest (even though it's really in her pocketbook). However,
> instead of paying the loan interest annually, she took another loan to
> pay the interest on the former loan. She likely did not actually
> engage in any action as this process is automatic unless the interest
> payment is remitted to the insurer by other means (i.e. she writes a
> check).
>
> Unfortunately, it's time to pay the piper. She invested $10k, withdrew
> some of the earnings, continued to receive interest on those earnings,
> did not pay out of pocket interest for that priviledge, enjoyed tax
> deferred growth, and then cancelled the policy (for which she received
> $10k-12k). She almost assuredly owes taxes on the $26k. At 20%
> automatic withholding, that's about $6500 in taxes. Although it's easy
> to feel bitter, you shouldn't. Had the insurance company reduced her
> cash value instead of charging interest she would likely have gotten
> much less in the long run.
Thank you very much. I suspected something like that, but I was not
sure.
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