What is a 1035 exchange and when should I use one?

A 1035 exchange is a provision in the IRS tax code (Section 1035) that allows the transfer of the cash value from one life insurance policy to another — or to an annuity — without triggering income taxes on the accumulated gains. It is a tax-free exchange that preserves the tax-deferred status of accumulated cash value.

Common uses: replacing an underperforming permanent policy with a newer, more competitive product; switching carriers while preserving cash value; converting a life insurance policy to an annuity for retirement income purposes; transitioning from one type of permanent policy to another (e.g., whole life to IUL).

The requirements: the exchange must be between qualifying contracts (life insurance to life insurance, or life insurance to annuity). The exchange cannot involve a distribution — the proceeds must go directly from the old carrier to the new carrier. The insured must remain the same person.

Benefits: you avoid income tax on any accumulated gain, the new policy starts with a carried-over cost basis, and you maintain continuous coverage without a new contestability period for the amount carried over.

Important note: a 1035 exchange starts a new surrender charge schedule with the new carrier. Evaluate the long-term economics before executing. Consult a tax advisor for your specific situation. Agents in our network can facilitate 1035 exchanges between A-rated (A.M. Best) carriers for Nevada policyholders.