Tax Policy and Administration:

Billions of Dollars Are Involved in Taxation of the Life Insurance Industry--Some Corrections in the Law Are Needed

PAD-81-1: Published: Sep 17, 1981. Publicly Released: Sep 17, 1981.

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GAO examined the provisions of the Internal Revenue Code under which life insurance companies are taxed to determine whether the provisions, which were enacted in 1959 and have not been reviewed since, were in need of revision.

The Life Insurance Company Income Tax Act needs updating to reflect substantial changes in the industry and the economy. The act contained a number of controversial provisions. Also, many features of the act were written to tax the industry when it was dominated by mutual companies, whole life insurance was the predominant product sold, the rate of inflation was low, and earning rates on investments were much lower than current rates. Special features in the act recognized the competitive balance between mutual and stock companies, the importance of fostering the survival of small life insurance companies, and the long-term nature of the life insurance business. In the past 20 years, the balance in the industry has shifted, and mutual companies no longer dominate. The lines of business that life insurance companies write have shifted from whole life to term and group insurance. There has been a dramatic increase in the pension line of business and tax-deferred annuities. Policy loan provisions have induced unanticipated demands on life insurance company assets in recent years. Because of these factors, Congress should consider changing sections of the Act which deal with the method by which the reserve deduction, that portion of current income necessary to meet future obligations, is calculated. Taxable income should be redefined as well as the method for approximating those reserves that are computed on a preliminary term basis.

Status Legend:

More Info
  • Review Pending-GAO has not yet assessed implementation status.
  • Open-Actions to satisfy the intent of the recommendation have not been taken or are being planned, or actions that partially satisfy the intent of the recommendation have been taken.
  • Closed-implemented-Actions that satisfy the intent of the recommendation have been taken.
  • Closed-not implemented-While the intent of the recommendation has not been satisfied, time or circumstances have rendered the recommendation invalid.
    • Review Pending
    • Open
    • Closed - implemented
    • Closed - not implemented

    Matters for Congressional Consideration

    Matter: Congress should amend section 805(b)(4) of the Life Insurance Company Income Tax Act of 1959 to clarify the definition of assets.

    Status: Closed - Implemented

    Comments: When we determine what steps the Congress has taken, we will provide updated information.

    Matter: Congress should consider amending section 804(c)(1) of the Life Insurance Company Income Tax Act of 1959 to provide a specific definition of investment expenses.

    Status: Closed - Implemented

    Comments: When we determine what steps the Congress has taken, we will provide updated information.

    Matter: Congress should consider amending section 801(b) of the Life Insurance Company Income Tax Act of 1959 which defines life insurance reserves.

    Status: Closed - Implemented

    Comments: When we determine what steps the Congress has taken, we will provide updated information.

    Matter: Congress should amend the language of section 801(a) of the Life Insurance Company Income Tax Act of 1959 to define a life insurance company.

    Status: Closed - Implemented

    Comments: When we determine what steps the Congress has taken, we will provide updated information.

    Matter: When considering the issue of deferred annuities, Congress should decide the issue of taxation at the corporate or individual level.

    Status: Closed - Implemented

    Comments: When we determine what steps the Congress has taken, we will provide updated information.

    Matter: Congress should amend the legislation to allow only $15 per thousand dollars of the amount at risk in revaluing reserves for permanent insurance plans.

    Status: Closed - Implemented

    Comments: When we determine what steps the Congress has taken, we will provide updated information.

    Matter: Congress should amend sections 802(b) and 815(c)(2)(A) of the Life Insurance Company Income Tax Act of 1959 to reflect the current condition of the life insurance industry. There should be no automatic deferral of half the excess of gain from operations over taxable investment income for all life insurance companies. However, eliminating this deferral should be gradual and indexed according to the age of the individual company.

    Status: Closed - Implemented

    Comments: When we determine what steps the Congress has taken, we will provide updated information.

    Matter: Congress should consider selecting as an alternative to replacing the 10 to 1 rule for adjusting reserves one of the following: (1) substituting the interest based on assumed rates for the 10 to 1 adjustment, the free interest method; (2) replacing the 10 to 1 rule with a reserve deduction based on a geometric approximation that provides a larger reserve deduction in the current economic environment; or (3) substituting a 4.5 percent maximum for the average earnings rate with either the 10 to 1 reserve adjustment or with the geometric reserve adjustment.

    Status: Closed - Implemented

    Comments: Congress adopted an entirely new approach to the taxation of insurance companies which does not accept the framework of the 1959 act implicit in the recommendation.

    Matter: Congress should determine the extent of any abuses of reinsurance and examine section 820 of the Life Insurance Company Income Tax Act of 1959 as it refers to modified coinsurance in any evaluation of the Act.

    Status: Closed - Implemented

    Comments: When we determine what steps the Congress has taken, we will provide updated information.

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