26 U.S.C. § 264: Certain amounts paid in connection with insurance contracts

Premiums on any life insurance policy, or endowment or annuity contract, if the taxpayer is directly or indirectly a beneficiary under the policy or contract. Any amount paid or accrued on indebtedness incurred or continued to purchase or carry a single premium life insurance, endowment, or annuity contract. Except as provided in subsection (d), any amount paid or accrued on indebtedness incurred or continued to purchase or carry a life insurance, endowment, or annuity contract (other than a single premium contract or a contract treated as a single premium contract) pursuant to a plan of purchase which contemplates the systematic direct or indirect borrowing of part or all of the increases in the cash value of such contract (either from the insurer or otherwise). Except as provided in subsection (e), any interest paid or accrued on any indebtedness with respect to 1 or more life insurance policies owned by the taxpayer covering the life of any individual, or any endowment or annuity contracts owned by the taxpayer covering any individual. any annuity contract described in section 72(s)(5), and any annuity contract to which section 72(u) applies. if substantially all the premiums on the contract are paid within a period of 4 years from the date on which the contract is purchased, or if an amount is deposited after March 1, 1954 , with the insurer for payment of a substantial number of future premiums on the contract. if no part of 4 of the annual premiums due during the 7-year period (beginning with the date the first premium on the contract to which such plan relates was paid) is paid under such plan by means of indebtedness, if the total of the amounts paid or accrued by such person during such taxable year for which (without regard to this paragraph) no deduction would be allowable by reason of subsection (a)(3) does not exceed $100, if such amount was paid or accrued on indebtedness incurred because of an unforeseen substantial loss of income or unforeseen substantial increase in his financial obligations, or if such indebtedness was incurred in connection with his trade or business. Subsection (a)(4) shall not apply to any interest paid or accrued on any indebtedness with respect to policies or contracts covering an individual who is a key person to the extent that the aggregate amount of such indebtedness with respect to policies and contracts covering such individual does not exceed $50,000. No deduction shall be allowed by reason of paragraph (1) or the last sentence of subsection (a) with respect to interest paid or accrued for any month beginning after December 31, 1995 , to the extent the amount of such interest exceeds the amount which would have been determined if the applicable rate of interest were used for such month. The applicable rate of interest for any month is the rate of interest described as Moody’s Corporate Bond Yield Average-Monthly Average Corporates as published by Moody’s Investors Service, Inc., or any successor thereto, for such month. which is a contract providing a fixed rate of interest, the applicable rate of interest for any month shall be the Moody’s rate described in clause (i) for the month in which the contract was purchased, or which is a contract providing a variable rate of interest, the applicable rate of interest for any month in an applicable period shall be such Moody’s rate for the third month preceding the first month in such period. 5 individuals, or the lesser of 5 percent of the total officers and employees of the taxpayer or 20 individuals. if the taxpayer is a corporation, any person who owns directly 20 percent or more of the outstanding stock of the corporation or stock possessing 20 percent or more of the total combined voting power of all stock of the corporation, or if the taxpayer is not a corporation, any person who owns 20 percent or more of the capital or profits interest in the taxpayer. all members of a controlled group shall be treated as one taxpayer, and such limitation shall be allocated among the members of such group in such manner as the Secretary may prescribe. For purposes of this paragraph, all persons treated as a single employer under subsection (a) or (b) of section 52 or subsection (m) or ( o ) of section 414 shall be treated as members of a controlled group. No deduction shall be allowed for that portion of the taxpayer’s interest expense which is allocable to unborrowed policy cash values. the taxpayer’s average unborrowed policy cash values of life insurance policies, and annuity and endowment contracts, issued after June 8, 1997 , bears to in the case of assets of the taxpayer which are life insurance policies or annuity or endowment contracts, the average unborrowed policy cash values of such policies and contracts, and in the case of assets of the taxpayer not described in clause (i), the average adjusted bases (within the meaning of section 1016) of such assets. the cash surrender value of such policy or contract determined without regard to any surrender charge, over the amount of any loan with respect to such policy or contract. a 20-percent owner of such entity, or an individual (not described in clause (i)) who is an officer, director, or employee of such trade or business. Paragraph (1) shall not apply to any annuity contract to which section 72(u) applies. Any policy or contract to which paragraph (1) does not apply by reason of this paragraph shall not be taken into account under paragraph (2). For purposes of subparagraph (A), the term “20-percent owner” has the meaning given such term by subsection (e)(4). If coverage for each insured under a master contract is treated as a separate contract for purposes of sections 817(h), 7702, and 7702A, coverage for each such insured shall be treated as a separate contract for purposes of subparagraph (A). For purposes of the preceding sentence, the term “master contract” shall not include any group life insurance contract (as defined in section 848(e)(2)). This subsection shall not apply to any policy or contract held by a natural person. If a trade or business is directly or indirectly the beneficiary under any policy or contract, such policy or contract shall be treated as held by such trade or business and not by a natural person. Clause (ii) shall not apply to any trade or business carried on as a sole proprietorship and to any trade or business performing services as an employee. The amount of the unborrowed cash value of any policy or contract which is taken into account by reason of clause (ii) shall not exceed the benefit to which the trade or business is directly or indirectly entitled under the policy or contract. The Secretary shall require such reporting from policyholders and issuers as is necessary to carry out clause (ii). In the case of a partnership or S corporation, this subsection shall be applied at the partnership and corporate levels. such disallowed interest shall not be taken into account for purposes of applying this subsection, and the amount otherwise taken into account under paragraph (2)(B) shall be reduced (but not below zero) by the amount of such indebtedness. This subsection shall be applied before the application of section 263A (relating to capitalization of certain expenses where taxpayer produces property). The term “interest expense” means the aggregate amount allowable to the taxpayer as a deduction for interest (within the meaning of section 265(b)(4)) for the taxable year (determined without regard to this subsection, section 265(b), and section 291). All members of a controlled group (within the meaning of subsection (e)(5)(B)) shall be treated as 1 taxpayer for purposes of this subsection. This subsection shall not apply to an insurance company subject to tax under subchapter L, and subparagraph (A) shall be applied without regard to any member of an affiliated group which is an insurance company. The amendments made by this section [amending this section] shall apply to interest paid or accrued after October 13, 1995 . indebtedness incurred before January 1, 1996 , or indebtedness incurred before January 1, 1997 with respect to any contract or policy entered into in 1994 or 1995, in the case of any interest paid or accrued after December 31, 1995 , indebtedness with respect to no more than 20,000 insured individuals were taken into account, and The rate of interest specified under the terms of the indebtedness as in effect on October 13, 1995 (and without regard to modification of such terms after such date). The applicable percentage of the rate of interest described as Moody’s Corporate Bond Yield Average-Monthly Average Corporates as published by Moody’s Investors Service, Inc., or any successor thereto, for such month. For purposes of subparagraph (B), the applicable percentage is as follows: For calendar year: The percentage is: 1996 100 percent 1997 90 percent 1998 80 percent.” on the complete surrender, redemption, or maturity of such policy or contract during calendar year 1996, 1997, or 1998, or in full discharge during any such calendar year of the obligation under the policy or contract which is in the nature of a refund of the consideration paid for the policy or contract, failing to meet the requirement of section 264(c)(1) of the Internal Revenue Code of 1986, or a single premium contract under section 264(b)(1) of such Code, section 848 of the Internal Revenue Code of 1986 shall not apply to the unamortized balance (if any) of the specified policy acquisition expenses attributable to such policy or contract immediately before the insurance company’s taxable year in which such event occurs, and there shall be allowed as a deduction to such company for such taxable year under chapter 1 of such Code an amount equal to such unamortized balance.”