Jerry's wife dies in September. His wife had paid $20,000 of premiums on a $150,000 face value whole life insurance policy. Jerry elects to receive the life insurance policy proceeds in 20 annual installments of $10,000. Jerry receives his first $10,000 payment this year. How much of the payment should Jerry report as gross income?

Question

Quizplus · Accepted Answer

The first step is to calculate the exclusion ratio, which determines what portion of the payment is taxable. The exclusion ratio is calculated as the investment in the contract (total premiums paid) divided by the expected return (total payouts).

In this case, the investment in the contract is $20,000 and the total payouts are $200,000 ($10,000 per year for 20 years). Therefore, the exclusion ratio is 10% ($20,000/$200,000).

To determine the taxable portion of the first $10,000 payment, multiply it by the exclusion ratio:

$10,000 x 10% = $1,000

This means that $1,000 of the $10,000 payment should be reported as taxable income. Therefore, the answer is B) $2,500 ($10,000 - $1,000 = $9,000 net payment; $10,000 - $9,000 = $1,000 taxable income).

Jerry's Wife Dies in September