Income from Life Insurance Products - Conventional Policies

Assessing income from conventional life insurance policies

Conventional life insurance policies are not financial investments. While the main purpose of conventional life insurance policies is to provide death cover, some policies include an investment element which may pay bonuses (profits) to the investor.  A person who invests in such a life insurance policy is seen as deriving income from a profit-making transaction.

Bonuses accumulate on conventional life insurance policies during the term of the policy. Bonuses are not assessed as ongoing income during the life of the policy. However, on withdrawal, surrender or maturity of the policy, the difference between the total amount received on withdrawal, surrender or maturity and the sum of the purchase price and premiums paid by the investor is assessed as income for 12 months    

Bonus payments in pre-pension years

The difference between the total amount received by a pensioner on withdrawal, surrender or maturity of the policy, and the full cost of the policy over its lifetime, is regarded as a net return to the pensioner and is assessable as income at the time it is received. Bonus payments nominally accruing to the policy during pre-pension years are not excluded from the income assessment, as they fall within the definition of income at the time of receipt.

Bonus payments that are not received

Where a life insurance payment on withdrawal, surrender or maturity of a policy is not available for the pensioner's own use or benefit, it does not meet the definition of income and should be excluded from the assessment. This exception will not arise where the proceeds from the policy are gifted, as the normal disposal rules will apply. However, the proceeds may be excluded where, for example, one life insurance policy is terminated, with the proceeds immediately being applied by the life office to the arrears on another policy.

Assessment of partial withdrawals

Where a pensioner receives only a partial payment from the full policy value, it is important to check that the policy is of a type that genuinely permits partial withdrawals. If there is satisfactory evidence that the non-withdrawn balance of the policy is continuing as a conventional life insurance product, the partial withdrawal may be separately assessed based on a pro-rata proportioning of the overall policy bonuses and costs.

Accessible amounts are income

Where the policy has matured but none, or only a partial withdrawal of the entitlement on maturity is accessed, the assessment is the same as if a withdrawal of the full amount had been made. This is because income is assessable when a person first has legal entitlement to it. It is not necessary that the funds be actually received by the pensioner, as legal control over the funds at the time that the policy matures is sufficient to satisfy the income test.

Matured funds not withdrawn

Arrangements between the pensioner and the insurance company for the matured funds to remain with the insurance company in a different form should not be recognised, as the exemption of life insurance policies from the normal deeming rules for financial investments is based on the funds not being accessible to the pensioner prior to maturity.

Financial penalties on early withdrawal

A pensioner should not be regarded as having a legal entitlement to access the full value of a policy if the policy provides for a significant financial penalty associated with the early surrender or redemption prior to maturity.

Assessment after 12 months

On maturity, the continuing exemption of conventional life insurance policies from the deeming rules is no longer applicable as the funds become accessible. A partial (or nil) withdrawal of funds after maturity will result in some funds still being maintained by the insurance company. These funds should be regarded as deposit money, now falling within the definition of a financial asset, and should be deemed.

However, this deeming assessment should not commence until the 12 month assessment provided for under section 46A has concluded. This is because an assessment under this section requires a finding that the amounts are not otherwise being deemed.

Purpose of conventional life insurance policies

The main purpose of conventional life insurance policies is to provide death cover, however some policies also:

• mature and provide a benefit if the insured becomes totally disabled, or
• include an investment element.

Identifying a conventional life insurance policy

The following table describes how to identify a conventional life insurance policy: