You purchased a life insurance policy or an annuity contract a few years ago. Let’s say that now you’ve been hearing about the benefits of newer products and are thinking of trading in your current one for a newer one. But, exchanging an annuity or life insurance policy isn’t like trading in a car. There may be costs associated with an exchange, depending on what you have now and what you’re looking at.
Generally referred to as an Internal Revenue Code (IRC) Section 1035 exchange, trading in an old life insurance policy or annuity for a newer one can make sense in many cases. Here are a few things to consider — before you choose a 1035 exchange — to see if it’s appropriate for you:
Why did you buy the policy or annuity in the first place?
When you purchased your life insurance policy or annuity contract, you did so for a reason. Respectively, you may have wanted to provide death protection for your family in case something happens to you, or you may have been looking for a way to save for retirement outside of your 401(k) or other retirement plan. Unless your goals have changed, you may not need a new policy or contract. If they have changed, ask yourself, “How will the new one help me achieve those goals?”
What’s better about the new one?
Insurance companies add new features and benefits to their policies and contracts to help clients achieve their evolving goals. But just because a policy offers something new, doesn’t necessarily mean you need it. Again, consider your goals. If they’ve have changed enough to warrant considering a new life insurance policy or annuity, you might work with your financial professional explore a new one with the features and benefits that suit you now.
How much each costs.
Sometimes new features cost more. So, before you consider exchanging your old policy or contract for a new one, look at how much you’re paying and how much you would be paying if you make a change. Make sure those new features are worth paying for in the long term. Both permanent life insurance and annuities are meant to be long-term financial planning vehicles, so you don’t want to get into something you may regret in a few years.
How long do you plan to keep it — and how long have you had it?
Since annuities and permanent life insurance are meant to be kept for the long term, they may or may not have surrender charges that apply if you get out too early. You’ll need to analyze the policy or contract to determine what charges apply. Will you incur surrender charges by moving out of the current annuity contract or life insurance policy into a new one? How long do you need to be in the new one to get past any new surrender charge schedule? Are those costs worth it?
Your health status.
If your health has declined, a new life insurance policy may cost you more than your current one does. On the other hand, if you’re still in good health or your health has improved, you may be able to save money on a new policy by qualifying for a better rating. Some life insurance companies have also been making changes to their underwriting policies due to improvements in healthcare. For example, in years past, if you had diabetes, you might receive a fairly low rating no matter how well you managed it. Today, if you can prove you are managing your diabetes consistently, you may be able to qualify for a better rating and therefore a lower charge.
The financial strength and stability of the life insurance company.
When you initially purchased a long-term financial product, like a life insurance policy or annuity contract, you probably made sure the company behind the product was financially stable. When performing an IRC Section 1035 exchange, the same questions need to be asked of the new company. What kind of ratings does it have from the independent rating agencies? What is the company’s claims-paying history? Is the new company comparable to the current one?
Tax consequences of making a change.
If done correctly, a 1035 exchange should not be a taxable event. However, if you decide to cash out of one policy or contract and then purchase another, the exchange will no longer be tax-free. You will end up paying taxes on at least part of the money, referred to as the gain or appreciation in the contract.
Talk to your advisors beforehand
It is smart to talk to your financial professional and tax advisor before making a change to your life insurance policy or annuity contract to help make sure you are making a move that is right for you now and in the future.
While it may be appropriate under some circumstances to replace an existing life insurance policy or annuity contract for another, the disadvantages of replacing, changing, or transferring a policy or contract may outweigh the benefits of the new policy or contract. Before replacing your product, you should work with your financial professional and tax advisor to fully compare your existing and proposed products to ensure that any replacement is appropriate, suitable and in your best interests.
This informational and educational content does not offer or constitute and should not be relied upon as financial, tax or legal advice. Your unique needs, goals and circumstances require and deserve the individualized attention of your own professionals, and Equitable Advisors, LLC (Equitable Financial Advisors in MI and TN) and its affiliates and associates do not provide tax or legal advice or services.
Equitable is the brand name of the retirement and protection subsidiaries of Equitable Holdings, Inc., including Equitable Financial Life Insurance Company(Equitable Financial) (NY, NY), Equitable Financial Life Insurance Company of America (Equitable America), an AZ stock company with main administrative headquarters in Jersey City, NJ, and Equitable Distributors, LLC. Equitable Advisors is the brand name of Equitable Advisors, LLC (member FINRA, SIPC) (Equitable Financial Advisors in MI and TN).