SECTION 5. PROCEDURE

.01 Request for a ruling . An issuer that seeks relief under this revenue procedure must submit a request for a ruling that meets the requirements of Rev. Proc. 2001–1, 2001–1 I.R.B. 1 (or any successor). Additionally, the submission must contain the following information:

(1) a specimen copy of each contract form;

(2) the policy number and original issue date for each contract;

(3) the taxpayer identification number of each contract holder;

(4) the “death benefit” (as defined in section 7702(f)(3)) under each contract for purposes of determining the 7-pay premium for the contract;

(5) the 7-pay premium assumed by the issuer when the contract was issued;

(6) the cash surrender value (within the meaning of § 7702(f)(2)(A)) of each contract at the end of each contract year;

(7) a description of the defect[s] that caused the contract[s] to fail to comply with the 7-pay test, including an explanation of how and why the defect[s] arose;

(8) a description of the administrative procedures the issuer has implemented to ensure that none of its contracts will inadvertently fail the 7-pay test in the future;

(9) a description of any material change[s] in the benefits under (or in the other terms of) any contract together with the date[s] on which the material change[s] occurred;

(10) for any contract with regard to which a contract holder directly or indirectly received (or was deemed to have received) any distribution to which § 72 applies—

(a) the date and amount of each distribution,

(b) the amount of the distribution includible in the contract holder’s gross income,

(c) the amount of gross income reported to the contract holder and to the Service on a timely filed information return as a result of the distribution,

(d) the date on which the contract holder attained [or will attain] age 59 1/2,

(e) whether the distribution is attributable to the contract holder becoming disabled (within the meaning of § 72(m)(7)), and,

with regard to a contract is the sum of—

(a) the income tax (determined using the applicable percentage for the contract under section 3.11 of this revenue procedure) and the additional tax under section 72(v) with regard to amounts (other than reported amounts (as defined in section 3.12 of this revenue procedure)) received (or deemed received) under the contract during the period commencing with the date 2 years before the date on which the contract first failed to satisfy the MEC rules and ending on the effective date of the closing agreement;

(b) any interest computed under § 6621(a)(2) as if the amounts determined under section 5.03(1)(a) of this revenue procedure are underpayments by the contract holder[s] for the tax year[s] in which the amounts are received (or deemed received); and

(c) an amount, not less than $0, obtained by multiplying—

(i) the excess, if any, of the contract’s cumulative overage earnings over the proportionate share of overage earnings allocable to taxable distributions under the contract, by

(ii) the applicable percentage for the contract, and by

(iii) the distribution frequency factor for the contract under section 3.10 of this revenue procedure.

(2) Special rule for contracts with de minimis overage earnings . If the overage earnings of a contract at all times during the testing period do not exceed $75, then the amount required to be paid with regard to the contract is determined without regard to paragraphs (a) and (b) of section 5.03(1) of this revenue procedure. (3) Examples of the determination of the amount required to be paid with re- gard to a contract .

(a) Example 1 . A, an individual, purchases a life insurance contract other than a contract described in section 3.07(3) or 4.02 of this revenue procedure. The death benefit of the contract exceeds $180,000 on every day within 120 days of the date of the request for closing agreement. The net level premium (assuming paid-up future benefits after seven annual premium payments) for the contract is $10,490. The contract provides that, within 60 days after the end of a contract year, the issuer will return (with interest) the amount of any ex

(f) whether the distribution is part of a series of substantially equal periodic payments (not less frequently than annually) made for the life (or life expectancy) of the contract holder or the joint lives (or joint life expectancies) of the contract holder and his or her beneficiary;

(11) a template (see, for example, section 5.03(3) of this revenue procedure) setting forth the following information for each contract:

(a) the cumulative amounts paid under the contract within each contract year of the testing period,

(b) the contract’s cumulative 7pay premium,

(c) the overage, if any, for each contract year,

(d) the earnings rate applicable for each contract year;

(e) the overage earnings for each contract year; and,

.02 Closing agreement . The issuer also must submit a proposed closing agreement, executed by the issuer, in substantially the same form as the model closing agreement in section 6 of this revenue procedure. The amount shown in section 1(A) of the closing agreement is the sum of the amounts required to be paid (determined under section 5.03 of this revenue procedure) for all of the contracts covered by the agreement.

.03 Determination of amount required to be paid with regard to a contract .

(1) General rule. Except as provided in section 5.03(2) of this revenue procedure, the amount required to be paid

2001–36 I.R.B. 215 September 4, 2001

cess premium that would cause the contract to be a MEC under § 7702A.

The interest rate on all portions of any policy loans will always exceed the rate at which interest is credited to the contract’s associated cash value by more than 1 percentage point. A partial withdrawal of the cash surrender value (within the meaning of § 7702(f)(2)(A)) always reduces the death benefit by an amount not less than

the amount determined by multiplying the death benefit immediately before the withdrawal by the percentage obtained by dividing the withdrawn amount by the cash surrender value immediately before the withdrawal.

A pays a premium of $10,000 when the contract is issued on January 1, 1991. At the beginning of each of the next 6 contract years, A pays additional premiums of

$10,750, $10,800, $10,700, $11,500, $11,000, and $10,000, respectively. Due to an inadvertent error, the issuer fails to return any of the excess premiums.

The issuer desires to enter into a closing agreement to remedy the failure to comply with § 7702A. Pursuant to section 5.01(10) of this revenue procedure, the issuer prepares the following template with regard to the contract.

Prior to A’s payment of the $10,800 premium at the beginning of contract year 3, the cumulative premiums paid for the contract do not exceed the contract’s cumulative 7-pay premiums. Therefore, there are no overage earnings in contract years 1 and 2.

Upon payment of the $10,800 premium at the beginning of contract year 3, however, the cumulative amount paid for the contract ($31,550) exceeds the contract’s cumulative 7-pay premiums ($31,470) by $80. As the earnings rate for the calendar year in which contract year 3 begins is 7.5%, the contract’s overage earnings for contract year 3 equal $6 ($80 x 7.5%).

For contract year 4, the overage is $290 ($42,250 - $41,960). The cumulative overage earnings for all prior contract years equal $6.00. The earnings rate is 8.3%. The overage earnings for contract year 4 equal $24.57 (($290 + $6) x 8.3%).

For contract year 5, the overage is $1,300 ($53,750 - $52,450). The cumulative overage earnings for all prior contract years equal $30.57 ($6 + $24.57). The earnings rate is 7.8%. The overage earnings for contract year 5 equal $103.78 (($1,300 + $30.57) x 7.8%).

For contract year 6, the overage is $1,810 ($64,750 - $62,940). The cumula

tive overage earnings for all prior contract years equal $134.35 ($6 + $24.57 + $103.78). The earnings rate is 7.7%. The overage earnings for contract year 6 equal $149.71 ($1,810 + $134.35) x 7.7%).

For contract year 7, the overage is $1,320 ($74,750 - $73,430). The cumulative overage earnings for all prior contract years equal $284.06 ($6 + $24.57 + $103.78 + $149.71). The earnings rate is 7.6%. The overage earnings for contract year 7 equal $121.91 (($1,320 + $284.06) x 7.6%).

The cumulative overage earnings for the contract equal $405.97 ($6 + $24.57 + $103.78 + $149.71 + $121.91). Under sections 3.10 and 3.11 of this revenue procedure, the distribution frequency factor is .5 and the applicable percentage is 36%. Accordingly, the amount required to be paid with regard to the contract under section 5.03 of this revenue procedure is $73.07 ($405.97 x .5 x 36%).

(b) Example 2. The facts are the same as in example 1 except that, at the beginning of contract year 5, A receives $3,000 as a policy loan. The contract’s cash value (within the meaning of § 72(e)(3)(A)(i)) immediately prior to the loan is $58,500, which exceeds A’s investment in the contract ($53,750) by $4,750.

Each year A pays the interest on the policy loan. The issuer does not file a timely information return with regard to the deemed distribution resulting from the policy loan and A does not include the distribution in gross income reported on the income tax return for the taxable years in which the deemed distribution is received. The total income on the contract (as defined in section 3.09 of this revenue procedure) is $14,500.

The amount required to be paid with regard to the contract under section 5.03 of this revenue procedure is the sum of (1) an amount equal to the income tax (determined using a 36% tax rate) and the additional tax under section 72(v) with regard to the $3,000 deemed distribution in contract year 5;

(2) interest computed under section 6621(a)(2) as if the amounts determined under (1) were underpayments for the taxable year in which the distributions are deemed to have occurred; and

(3) 36% of $160.99, which is the excess of the contract’s cumulative overage earnings over the proportionate share of the overage earnings allocable to taxable distributions ($405.97 - $83.99), multiplied by the distribution frequency factor (.5).

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The proportionate share of overage earnings allocable to taxable distributions is obtained by multiplying the total amount of the taxable distribution under the contract ($3,000), by a fraction, the numerator of which is the contract’s cumulative overage earnings ($405.97) and the denominator of which is the total income on the contract ($14,500).

.04 Payment of amount. The issuer is required to pay the amount determined under section 5.03 of this revenue procedure within thirty (30) days of the date of execution of the closing agreement by the Service. Payment shall be made by check payable to the “United States Treasury” delivered, together with a fully executed copy of the closing agreement, to Internal Revenue Service, Philadelphia Service Center, 11601 Roosevelt Boulevard, Philadelphia, Pennsylvania 19154, Attention: Chief, Receipt and Control Branch, DP3190.

.05 Correction of contracts . (1) Gen- eral rules. If, on the date of the execution of the closing agreement by the Service, the testing period (as defined in section 3.01 of this revenue procedure) for a contract has more than ninety (90) days remaining, then the issuer must bring the contract into compliance with § 7702A. The issuer may bring a contract into compliance with § 7702A either by either increasing the contract’s death benefit or returning the contract’s excess premiums and earnings thereon to the contract holder. The issuer shall take the corrective action required under this section 5.05(1) within ninety (90) days of the date of execution of the closing agreement by the Service.

(2) No corrective action required if Service executes closing agreement on a date within 90 days of the expiration of testing period. If the testing period for a contract expires on or before the date within 90 days of the execution of the closing agreement by the Service, then the issuer is not required to take any corrective action under section 5.05(1) of this revenue procedure.