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January 8, 2021

Consolidated Appropriations Act, 2021, includes change that impacts life insurance contract qualification test

The Consolidated Appropriations Act, 2021 (H.R. 133) (CAA), signed by the President on December 27, 2020, makes a change to Internal Revenue Code (IRC) that provides for the use of a dynamic interest rate in performing the IRC Section 7702 life insurance contract qualification tests.


IRC Section 7702 provides a definition of life insurance contract that must be satisfied for a contract to be treated as a life insurance contract for federal tax purposes. To meet these requirements, a contract must be a life insurance contract under applicable law (generally, state law) and must satisfy one of two actuarial tests that impose limitations on the amount of premiums paid into the contract and/or the amount of cash value that can accumulate relative to the level of death benefit protection. These limitations are based on complex actuarial calculations for determining the present value of the future death benefits.

Further, IRC Section 7702 sets forth certain assumptions for defining these actuarial values, including the use of minimum interest rates that were prescribed in 1984, when the statute was originally enacted. While these statutory minimum interest rates have remained unchanged, market interest rates have steadily declined for the past 30-plus years and remain at unprecedented low levels. As a result, the rates of return that life insurance companies have generally been able to generate on the investment assets supporting their life insurance contract liabilities are substantially lower than the interest rate assumptions that are built into the IRC Section 7702 actuarial calculations. This has created challenges for life insurance companies from a product design and profitability perspective (e.g., in the case of whole life insurance products). Challenges also arise from a contract funding perspective in that policyholders cannot pay premiums otherwise required to keep their contracts in force because IRC Section 7702 funding limitations have been reached (e.g., in the case of flexible premium universal life insurance products).

The change

Section 205 of the CAA changes IRC Section 7702 by incorporating a dynamic interest rate model for defining the statutory minimum interest rates, allowing the minimum interest rates to change over time in line with changes in market interest rates.


Although the life insurance industry might welcome this change, due to the challenges mentioned above, the new interest rate model will require life insurance companies to perform some or all of the following activities:

  • Analyze their product portfolio
  • Assess the need to update product design and/or features
  • Determine whether products must be refiled with state insurance departments

Additionally, life insurance companies will need to assess various systems (e.g., policyholder administration, illustration, etc.) to determine if any updates are required with respect to IRC Section 7702 and IRC Section 7702A modified endowment contract testing functionality in order to conform to the CAA changes.

The CAA changes will apply to life insurance contracts issued after December 31, 2020. As such, companies will have only a short window to perform the activities discussed above and to ensure that (1) their product portfolio and sales and administration procedures properly consider the new requirements and (2) their systems otherwise continue to effectively monitor compliance with IRC Sections 7702 and 7702A upon implementation of any new functionality. Given the January 1, 2021 effective date, further guidance may be forthcoming to assist companies in transitioning to these new requirements.


Contact Information
For additional information concerning this Alert, please contact:
Financial Services Office – Insurance Sector
   • Rick Gelfond (
   • Cori Cline (
   • Brian G. King (
   • Phil Ferrari (
   • Tali Green (