Considering cancelling whole life - advice?

[rschroe9]

Thank you for taking the time to consider this situation.  I hold two whole life policies, courtesy of a close friend's recommendation (he worked for NWM).  My current situation is:

$15,141.26 Cash Value
$21,818.84 Basis
38 months in

$14,937.27 Cash Value
$23,446.80 Basis
52 months in

I'm 30 and single, so I'm not in dire need of life insurance at the moment (and certainly can get term when the time is right).

I'm considering converting my current cash values to a variable annuity via the IRS 1035 process, and allowing my "investment" to get back to even, and then investing the money from there.  I figure it should take about 6 years-ish with an aggressive VA to get there.

Any thoughts?  I keep reading here that the best time to get out of whole life is immediate...I hope this is the right move.

Thanks,

Rob

[jfoxcpacfp]

So your close friend sold a 26-y.o. single male (presumably healthy and w/o children) two whole life insurance policies? With friends like that...

Since you have a (nondeductible) loss, there isn't any reason to compound the problem by rolling into an annuity. Cash out and invest the proceeds in a well-balanced equity mutual fund/ETF portfolio, rebalanced annually. You'll recover much faster than you will by paying commissions to an annuity salesman, as opposed to "never". (wait! Is your "close friend" also the annuity salesman? If so, might want to delete him from your Favorites list.)

You're young, chalk it up to experience and be glad you got out sooner rather than later.

[rschroe9]

Thank you for your reply.  This whole experience leaves a very foul taste in my mouth...

I was thinking about the VA option from the suggestion I found on this website:  https://www.whitecoatinvestor.com/how-to-dump-your-whole-life-policy/#comment-439223

The author suggests using a Vanguard VA, with expenses at around 0.6 - 0.7%.  Would that make sense, given that there isn't a middle man payment?

Also, just to confirm, since I have a loss currently, if I just take my cash value and invest in a Roth IRA or a Traditional IRA, what are my tax implications?

For the record, I do have access to a Roth 403(b) through my employer that I am not maxing out (which I now know I should be doing...foul taste...)

Thank you again for taking the time to go over this.

[jfoxcpacfp]

rschroe9 wrote:

I was thinking about the VA option from the suggestion I found on this website:  https://www.whitecoatinvestor.com/how-to-dump-your-whole-life-policy/#comment-439223

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If you had a taxable gain on your policies, that might make sense. But since you don't have to worry about that, the annuity is unnecessary. A loss on cancellation of a whole life policy is not deductible, so you just have to suck it up and move on. I'm sorry to be the bearer of bad news.

[rschroe9]

OK I got it.  I wasn't sure if I had to pay tax on the cash value I received.

Time to max that Roth...

Thank you for your kindly consideration!

[Scott at MD Financial Services]

You can roll over via 1035 exchange the CV from your whole life to the annuity, allow it to grow back to your basis then cash it out and not pay tax on the gain from the rollover amount back to the basis you had in the WL.  Be mindful that you need to pick an annuity contract that has the ability to carry forward the basis on a 1035 and one that does not have a surrender charge in excess of the time period it takes to get the money back up to your basis.

[rschroe9]

Sorry, one more question.

"You may then either let the VA grow until the cash value equals the basis, and then surrender the VA with no tax cost, or you may immediately cash out of the VA and book the loss.  Life insurance losses aren’t tax deductible, but VA losses are. There is some debate as to whether those losses are deductible at your marginal tax rate or at the lower capital gains rate, but when an area in the tax code is gray, I prefer to call it in my favor.  It would probably be wise to do the exchange and the surrender in different tax years to avoid concern about the step transaction doctrine."

So is it possible to deduct the loss if I did transfer to a VA?

[Scott at MD Financial Services]

I have helped many clients through that process, so yes you can but make sure your CPA is up to speed on the process since many will give you a puzzled look.

[rschroe9]

My taxes are relatively simple at this point in time--I prepare my own.  I think I'll avoid this potential headache.

Thanks,

Rob

[rschroe9]

Can you explain what you mean in layman's terms?

[rschroe9]

I actually have a Roth 403(b) I can stick this money in, so that seems to be the right course of action?  Given that the money is going to grow in either place...

[rschroe9]

I can put in up to 100% of my monthly salary into the Roth 403 (b) each month.  So within 15 months, I can have all the money plus the monthly premiums I would be paying into the Roth.

[jfoxcpacfp]

Rex wrote:

You should 1035 for the cost basis That’s what I would do

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A 1035 does not help if you have a built-in loss. Tax-free exchanges are to defer built-in gain. I don't believe people answering realize you are looking at a loss. I disagree with Scott @ MD Financial Services that you should try to 1035 a WL policy into an annuity and use the loss to eat up the gain.

rschroe9 wrote:

I actually have a Roth 403(b) I can stick this money in, so that seems to be the right course of action?  Given that the money is going to grow in either place…

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If this is at your current job, you can only contribute through your paycheck but, yes, you can structure your paycheck to defer more to the Roth 403b and sub out the proceeds for living expenses. You can also contribute to a Roth (or convert to a backdoor Roth) for you and your spouse. Any remaining can go into a taxable account. I recommend all of these before the VA. In other words, if you wouldn't have bought a VA yesterday, it's not any more attractive today, even a low-commission one.

[jfoxcpacfp]

rschroe9 wrote:

I can put in up to 100% of my monthly salary into the Roth 403 (b) each month.  So within 15 months, I can have all the money plus the monthly premiums I would be paying into the Roth.

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Yes - I think we were posting at the same time. See my prior response.

[rschroe9]

Once I have the money in my account, I plan on sending 100% of my salary for the next 15 months to the Roth 403(b).  That will equal out almost exactly.