66 / How is the cash value accumulation test met?

To satisfy the cash value accumulation test, the cash surrender value of a contract, according to its terms, must not at any time exceed the net single premium that would be necessary at such time to fund future benefits (death benefits, endowment benefits, and charges for certain additional benefits, such as a disability waiver) under the contract.¹ The cash surrender value of a contract is its cash value, disregarding any surrender charges, policy loans, or reasonable termination benefits. The net single premium is determined by using (1) an annual effective interest rate of 4 percent or the interest rate(s) guaranteed in the contract, whichever is greater, (2) the mortality charges specified in the contract or if none are specified, the charges used in figuring the statutory reserves for the contract, and (3) any other charges specified in the contract.

For contracts issued on or after October 21, 1988, the mortality charges used must be reasonable charges that meet the requirements, if any, identified in the applicable regulations and that do not exceed the mortality charges specified in the “prevailing commissioners’ standard tables” at the time the contract is issued.² The 2017 tax reform legislation modified the definition of the prevailing commissioners’ standard tables. The exercise of an option to change a policy’s death benefit after October 21, 1988, added to the policy by endorsement prior to this date, did not cause the policy to become subject to the reasonable mortality requirements of IRC Section 7702(c)(3)(B)(i), as amended by Technical and Miscellaneous Revenue Act (TAMRA).³

Proposed regulations provide three safe harbors for meeting the reasonable mortality charge requirement in contracts that insure only one life and that are entered into on or after October 21, 1988.⁴ A contract issued before October 21, 1988 will meet the reasonable mortality charge requirements if it has mortality charges that do not differ materially from the charges actually expected to be made.⁵ Any other reasonable charges taken into account for purposes of determining the net single premium must be reasonably expected to actually be paid and must be actually specified in the contract.⁶