ExpertMedium1 markMultiple Choice
CPA · Question 18 · Area I: Individual Compliance and Planning
A taxpayer surrenders a life insurance policy for its cash value of $120,000. Total premiums paid were $80,000. The taxpayer had previously received $10,000 in tax-free dividends from the policy. What is the taxable amount recognized upon surrender?
A taxpayer surrenders a life insurance policy for its cash value of $120,000. Total premiums paid were $80,000. The taxpayer had previously received $10,000 in tax-free dividends from the policy. What is the taxable amount recognized upon surrender?
Answer options:
A.
$40,000
B.
$120,000
C.
$50,000
D.
$30,000
How to approach this question
Calculate Adjusted Basis: Premiums Paid - Tax-Free Dividends Received. Gain = Cash Surrender Value - Adjusted Basis.
Full Answer
C.$50,000✓ Correct
C
IRC §72(e). Gain = Amount Received - Investment in Contract (Basis). Basis = Premiums Paid ($80,000) - Tax-Free Dividends ($10,000) = $70,000. Gain = $120,000 - $70,000 = $50,000 ordinary income.
Common mistakes
Forgetting to reduce basis by the dividends received.
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