When a client sells a life insurance policy, the tax return work is a two-tier gain calculation and an information-reporting reconciliation — and the forms usually arrive before the client thinks to mention the transaction. Forms 1099-LS and 1099-SB show up in the January mail, the client calls, and the preparer has to reconstruct a basis figure for a contract that may have been in force for thirty years.
The good news is that the rules got simpler. Rev. Rul. 2020-05 conformed IRS guidance to the 2017 Tax Cuts and Jobs Act, so a seller’s basis is no longer reduced by cost-of-insurance charges. Basis is generally total premiums paid. That is a materially better answer than the old Rev. Rul. 2009-13 treatment, and it means the number your client can actually document — premiums paid — is now the number that matters.
Send us a redacted policy cover page. If a client is considering a sale rather than reporting one, that single page starts a free review with no obligation. The initial read is typically one to two business days. Call (305) 209-7183.
In This Article
- The Two-Tier Gain Calculation
- Basis After Rev. Rul. 2020-05
- IRC Section 6050Y: What the Forms Actually Say
- Section 101(g): When Proceeds Are Not Taxable at All
- How It Flows to the Wisconsin Return
- Wisconsin Marital Property and Entity-Owned Contracts
- Where CPAs Find These Cases
- How a Referral Works
- Frequently Asked Questions
The Two-Tier Gain Calculation
Start with three numbers: gross proceeds, adjusted basis, and cash surrender value at the time of sale. The gain is proceeds minus basis. The character is then split. Gain up to the excess of cash surrender value over basis is generally ordinary income. Gain above that amount — the portion attributable to the mortality value the secondary market paid for — is generally capital gain, long-term if the contract was held more than a year.
Two consequences follow. First, a policy with little or no cash value can throw off gain that is almost entirely capital, which is a better outcome than most clients expect. Second, the cash surrender value figure is not optional documentation; without it you cannot split the tiers. Get it from the carrier in writing, dated at or near the sale.
Basis After Rev. Rul. 2020-05
Under Rev. Rul. 2009-13 the IRS required a seller to reduce basis by the cost-of-insurance charges embedded in the contract, which was both unfavorable and difficult to compute. The 2017 Act reversed that for sales after August 25, 2009 in the relevant respect, and Rev. Rul. 2020-05 conformed the guidance: basis is generally aggregate premiums paid, without reduction for mortality charges.
Practical documentation for the file: carrier premium history where obtainable, the client’s own payment records, and any records of policy loans, withdrawals or partial surrenders, which do affect the computation. Where the client borrowed against the contract and the loan is discharged at closing, the loan discharge is part of the amount realized — a routine trap on older whole life contracts.
IRC Section 6050Y: What the Forms Actually Say
A reportable policy sale triggers information reporting that runs in three directions. The buyer generally files Form 1099-LS reporting the payment to the seller and notifying the issuer of the sale. The issuer generally furnishes Form 1099-SB reporting the seller’s investment in the contract and the surrender value. And where the insured later dies, reportable death benefit reporting on Form 1099-R can apply to the payment to the buyer.
Two reconciliation points matter for your return preparation. The 1099-SB investment-in-contract figure is the issuer’s computation and may not match the basis you can substantiate from premium records, so review it rather than adopting it. And a client who receives a 1099-LS for a transaction they described as merely surrendering a policy has almost certainly done something different than they told you.
Section 101(g): When Proceeds Are Not Taxable at All
A terminally or chronically ill insured may receive proceeds income-tax-free under IRC sec. 101(g) when the certification requirements are satisfied. For terminal illness that generally means a physician certification that the insured is reasonably expected to die within 24 months. For chronic illness the requirements are narrower and tied to the use of proceeds and to certification of the insured’s condition.
This is the single highest-value question to ask before assuming a taxable event. A viatical settlement satisfying sec. 101(g) and paid by a qualified viatical settlement provider can be entirely excluded from income, which changes the planning conversation completely. Verify the certification is in hand and dated properly — the exclusion is documentation-dependent.
| Component | General federal treatment | Documentation to obtain |
|---|---|---|
| Adjusted basis | Total premiums paid, not reduced for cost of insurance (Rev. Rul. 2020-05) | Carrier premium history; client payment records |
| Gain up to CSV over basis | Generally ordinary income | Dated cash surrender value statement |
| Gain above CSV | Generally capital gain | Settlement contract; closing statement |
| Policy loan discharged at closing | Generally part of the amount realized | Carrier loan payoff figure |
| Terminal illness sale | May be excluded under IRC sec. 101(g) | Physician certification, 24 months or less |
| Information reporting | Forms 1099-LS and 1099-SB under IRC sec. 6050Y | Both forms; reconcile to your basis figure |
| Wisconsin return | Generally flows from federal AGI to Form 1 | Verify current DOR conformity and capital gain treatment |
How It Flows to the Wisconsin Return
Wisconsin individual income tax generally begins from federal adjusted gross income, with statutory additions and subtractions, so federal character and amount ordinarily carry through to Wisconsin Form 1. Wisconsin has historically limited the deduction and inclusion treatment of capital gains differently than the federal rules, including a partial exclusion for long-term capital gains for individuals — confirm the 2026 percentage and eligibility with the Wisconsin Department of Revenue before you model the after-tax number for a client.
Also confirm Wisconsin’s current federal conformity date, since it is updated periodically by the legislature and determines whether specific federal provisions apply for state purposes. Our Wisconsin life settlement tax overview covers the general structure; the state computation is your work.
Wisconsin Marital Property and Entity-Owned Contracts
Wisconsin is a marital property state under Wis. Stat. ch. 766, which can affect who reports the gain when a policy was acquired during the marriage with marital property funds. Do not assume the named owner is the sole reporter without looking at the marital property agreement and the funding history.
Entity-owned contracts raise different issues. A policy held by a closely held corporation or an LLC produces gain at the entity level with its own character and basis analysis, and the employer-owned life insurance rules can affect death benefit treatment entirely separately. Where a policy is moving between related parties rather than to a third-party institutional buyer, run the transfer-for-value analysis before anything is signed.
Where CPAs Find These Cases
Three recurring places in a Wisconsin practice. The Schedule A or personal cash flow review that shows a five-figure annual premium the client cannot explain. The estate or trust return where an ILIT is still paying premiums on coverage sized for an estate tax the client will not owe. And the elder client heading toward long-term care, where Family Care, Family Care Partnership and IRIS apply a $2,000 individual countable-asset limit in 2026 and cash surrender value becomes an eligibility obstacle rather than a resource.
Your role is not to recommend the transaction. Under the AICPA Statements on Standards for Tax Services and the Code of Professional Conduct — and Wisconsin CPA licensure through the Accounting Examining Board within the Department of Safety and Professional Services — the clean posture is to describe the tax consequences and let the client take the recommendation from independent counsel.
How a Referral Works
You or the client sends one document: the policy cover page, with permission. That page identifies the carrier, product type, face amount and issue date — enough for a preliminary read on whether the policy has secondary-market value. No fee, no engagement, no obligation. The initial response is typically one to two business days.
If it looks viable, an indicative range requires three more items: a current in-force illustration, the latest carrier statement, and a signed HIPAA authorization. A standard file runs roughly 60 to 120 days from complete documentation through funding. Wisconsin transactions are governed by Wis. Stat. sec. 632.69 and administered by the Office of the Commissioner of Insurance, which licenses both providers and brokers.
Your client stays in control. They decide whether to proceed, they can stop before closing, and you and their attorney can review any offer first. Call (305) 209-7183 or send the cover page for a free review.
This page is educational only and is not legal, tax or investment advice. Pine Lake Life Solutions does not provide tax counsel; the client’s own CPA and attorney should review any transaction before it is executed.
Frequently Asked Questions
What is the seller’s basis in a life insurance policy today?
After Rev. Rul. 2020-05, which conformed guidance to the 2017 Tax Cuts and Jobs Act, basis is generally total premiums paid without reduction for cost-of-insurance charges. That reversed the less favorable Rev. Rul. 2009-13 approach. Adjust for policy loans, withdrawals and partial surrenders as applicable.
How is the gain split between ordinary income and capital gain?
Gain up to the excess of cash surrender value over basis is generally ordinary income. Gain above that amount is generally capital gain, long-term where the holding period is met. You need a dated cash surrender value figure from the carrier to make the split.
What forms will my client receive after a policy sale?
Generally Form 1099-LS from the buyer reporting the payment, and Form 1099-SB from the issuer reporting the seller’s investment in the contract and the surrender value, both under IRC section 6050Y. Review the issuer’s investment-in-contract figure rather than adopting it, since it may not match substantiated premium records.
When are proceeds completely tax-free?
Proceeds may be excluded from income under IRC section 101(g) where the insured is terminally ill, generally with a physician certification of a life expectancy of 24 months or less, or chronically ill under narrower conditions. The exclusion is documentation-dependent, so confirm the certification is in hand and properly dated.
How does this flow to the Wisconsin return?
Wisconsin individual income tax generally starts from federal adjusted gross income, so federal amount and character ordinarily carry to Form 1 subject to state additions, subtractions and the treatment of long-term capital gains. Confirm the 2026 figures, the capital gain exclusion percentage and Wisconsin’s current federal conformity date with the Department of Revenue.
Does a policy loan change the calculation?
Yes. Where a policy loan is discharged as part of the sale, the discharged amount is generally included in the amount realized even though the client does not receive cash for it. This regularly surprises clients on older whole life contracts with substantial accumulated loans.
Does Wisconsin marital property law affect who reports the gain?
It can. Wisconsin is a marital property state under Wis. Stat. ch. 766, so a policy acquired during the marriage with marital property funds may not be reportable solely by the named owner. Review the marital property agreement and the funding history rather than assuming.
Can I recommend that a client sell a policy?
Describing the tax consequences is squarely within your role; recommending the transaction generally is not, and the AICPA Statements on Standards for Tax Services and the Code of Professional Conduct counsel keeping that line clean. Direct the client to independent legal and insurance counsel for the recommendation itself.
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Related Reading
- Life Settlement Taxes Wisconsin
- Cash Surrender Value Life Insurance
- Life Settlement Vs Surrender
- Life Settlement Licensing Wisconsin
- Wisconsin Medicaid Asset Income Limits
- Education Center
Pine Lake Life Solutions does not purchase life insurance policies and does not provide legal, tax, or investment advice. Information provided is for educational purposes only. Eligibility for any option, including life settlements, is not guaranteed and depends on individual circumstances, policy terms, underwriting, and market conditions. Consult independent legal, tax, or financial professionals before making decisions regarding a life insurance policy.