Monthly LRA Update

LEGISLATIVE DEVELOPMENTS

Amendment to IRC §  7702 – Minimum Rate of Interest

On December 27, President Trump signed the Consolidated Appropriations Act (“CAA”) into law. The CAA combined COVID-19 stimulus measures and various other budget appropriations.

Section 205 of the CAA updates the minimum rate of interest for IRC § 7702 testing for life insurance contracts issued after December 31, 2020. The previously stated minimum rates were 4% (for the Cash Value Accumulation Test, “CVAT”) and 6% (for the Guideline Premium Test, “GPT”). The new law establishes a new minimum rate of 2% for the CVAT and 4% for the GPT in 2021.

After 2021, the rate will be based on the lower of the prescribed U.S. valuation interest rate for life insurance with guaranteed durations of more than 20 years (as defined in the NAIC’s Standard Valuation Law”], or the average of “the applicable Federal mid-term rates (as defined in section 1274(d) but based on annual compounding) effective as of the beginning of each of the calendar months in the most recent 60-month period ending before the second calendar year prior to such adjustment year.” If these reference rates rise above the prior law levels (4% for CVAT and 6% for GPT), the prior law levels will apply (unless the contracts set forth a higher guaranteed interest rate).

Impact of Lower Minimum Rates in IRC § 7702 Testing

Since the changes only apply to contracts newly issued after December 31, 2020, this development does not have direct impact on in-force contracts.

For new contracts, the utilization of lower minimum rates will allow for relatively larger premium contributions for a given level of death benefit. This, in turn, can be expected to result in lower relative deductions for Cost of Insurance (COI) and lower death benefit gains from mortality if contracts are funded to maximum levels as compared to contracts established under the higher rates.

We have confirmed that some carriers are already able to issue contracts using the lower rates. Others are working through administrative and product filing implications.