Using IRA Funds to Purchase Life Insurance

In general, the Internal Revenue Service (IRS) has prevented IRAs to be used for the acquisition of life insurance. Specifically, an improperly designed estate plan using Plan Funds to acquire life insurance will result in the individual's estate realizing estate taxes on the insurance proceeds and excise tax on the IRA for the purchase of life insurance. Also, a Participant must incur income taxes on the value of the death benefit acquired by a plan on behalf of the Participant. The Internal Revenue Code (Code) restricts the amount of life insurance that may be acquire to preserve the intended purpose of the Plan, i.e., to provide retirement benefits to the Plan participant and his or her dependents. The Code also prevents individual retirement accounts from owning
life insurance. Furthermore, when a Plan owns life insurance on a Participant at the time of the Participant's death and the Participant possesses an incident of ownership over the policy within three years of death, the life insurance proceeds will be subject to estate tax. These 'incidents of ownership,' which are important in an analysis of the topic discussed herein, include having the power to: designate the beneficiary of the policy; surrender or cancel the policy; assign the policy; or borrow against the policy. These are just some of the impediments imposed by the Code to prevent or discourage a Plan from using Plan Funds to acquire life insurance policies on the life of a Participant.