Question: Consider the following information on premium payments of two Universal Life policies: Policy Year Policy A Policy B 1 $3,500 $1,000 2 $3,500 $2,000 3
Consider the following information on premium payments of two Universal Life policies:
| Policy Year | Policy A | Policy B |
| 1 | $3,500 | $1,000 |
| 2 | $3,500 | $2,000 |
| 3 | $5,000 | $4,000 |
| 4 | $4,000 | $8,000 |
| 5 | $0 | $16,000 |
| 6 | $8,000 | $12,000 |
| 7 | $4,000 | $6,000 |
Policy A has a 7-pay premium of $4,000 per year. Policy B has a 7-pay premium of $7,000.
At the end of policy year 7, Policy A has an account value of $40,000 and Policy B has an account value of $65,000. At that time (end of year 7), both policies take their first withdrawal for $30,000.
a. Do either of Policy A or Policy B ever become Modified Endowment Contracts (MEC)? If so, in which policy year?
b. Determine the amount of each withdrawal that would be reported as taxable income for each policy.
c. What is the primary purpose of the IRS changing the tax code to create the concept of a Modified Endowment Contract (MEC)?
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