Certified Financial Consultant (CFC) Practice Exam

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Prepare for the Certified Financial Consultant Exam. Enhance your understanding with detailed questions, hints, and explanations. Boost your confidence for the CFC test!

Each practice test/flash card set has 50 randomly selected questions from a bank of over 500. You'll get a new set of questions each time!

Practice this question and more.

Regarding the taxation of insurance policy loans, which statement is true?

Policy loans are tax-exempt.
Policy loans are considered taxable income.
Policy loans incur a penalty regardless of age.
Policy loans are treated as distributions.

The correct answer is: Policy loans are tax-exempt.

Policy loans are typically tax-exempt, which means that when a policyholder borrows against the cash value of their life insurance policy, they do not have to pay income taxes on the amount borrowed, provided the policy remains in force. This tax treatment reflects the understanding that the loan is not actually a withdrawal of funds but rather a loan secured by the policy's cash value. Since the loan is not categorized as income, policyholders can access these funds without immediate tax consequences, making this option a favorable financial strategy for liquidity needs. It's essential to note that if the policy is surrendered or lapses while there are outstanding loans, any amount in excess of the policy's basis could indeed be subject to taxation. However, while the loan is outstanding and the policy is in effect, it remains tax-exempt. This underlying principle is why policy loans are viewed differently from traditional income payments or distributions by the IRS, leading to the conclusion that they fall under tax-exempt status as long as they adhere to specific guidelines associated with life insurance policies.