285 / Will a policyholder’s sale of life insurance policy to a corporation result in a loss of the tax exemption for the death proceeds?

Generally, yes, but not if the insured is an officer or shareholder of the corporation. IRC Section 101(a)(2)(B) provides that the transfer for value rule does not apply if the transfer is to a corporation in which the insured is a shareholder or officer ( Q 279). Moreover, where a policy is transferred more than once, but the last transfer is to a corporation in which the insured is an officer or shareholder, the proceeds will be wholly tax-exempt regardless of any previous sale or other transfer for value.¹

Proceeds will lose their income tax-exempt status by sale to a corporation if an insured is merely a non-stockholder, non-officer employee, or director because this kind of sale does not come within the exceptions to the transfer for value rule ( Q 279).

It also is doubtful whether a person who is only nominally an officer, with no real executive authority or duties, would be considered an officer.² Regulations do not define the term officer for this purpose.

It should be noted that the important relationship is that between an insured and a corporation. In other words, even though a policyholder is not an insured, the exception will apply provided the insured is an officer or shareholder in the corporation to which the policy is transferred.

Where an employer purchases a policy from an employee for contribution to a qualified plan, see Q 3969. See Q 279 for a discussion of the impact of the 2017 tax reform legislation.