Tax Implications of Cashing Out an NML 65 Life Insurance Policy

Cashing out a NML 65 life insurance policy can trigger taxable income if the proceeds exceed the total premiums paid, as the excess is considered a taxable gain. The tax treatment also depends on whether the policy is a traditional whole life or a universal life with a cash value component.

Determining the Taxable Amount

The taxable portion equals the policy's cash value minus the cumulative premiums paid. For example, if a policy's cash value is $50,000 and premiums paid total $30,000, $20,000 is taxable income. This calculation follows the IRS "cost basis" rules for life insurance.

Policy Loans vs. Cash Surrender

Taking a loan against the policy's cash value is not immediately taxable; however, unpaid interest and loan balances that exceed the policy's death benefit can become taxable when the policy lapses or the insured dies. Cash surrender, in contrast, produces taxable gain at the time of withdrawal.

Impact of the 65-Rule

Policies issued to individuals 65 or older may have reduced surrender charges, but the tax rules remain unchanged. The policy's age does not alter the cost‑basis calculation; only the premiums paid and the cash value matter.

State Income Tax Considerations

Some states treat life insurance proceeds as taxable income, while others exempt them. Verify state tax laws to determine if the surrender is subject to additional state income taxes.

Strategies to Mitigate Tax Burden

• Withdraw only the amount needed to keep the policy in force.
• Use policy loans sparingly and pay interest promptly.
• Consider a structured payout plan to spread taxable income over several years.