Taxation✓ Verified · outline & fact-checked · Sep 2026Difficulty 1/5
The growth in the cash value of a permanent life insurance policy, including interest credited each year, is taxed:
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Answer & full 3-part explanation (select an option above, or peek)
Why B is correct
The inside buildup of a permanent life insurance policy — the interest and growth credited to the cash value — is not taxed each year. Under the federal income tax framework for life insurance, the cash value grows on a tax-deferred basis, so no income tax is due while the growth stays inside the policy. Tax is generally triggered only when amounts are distributed, such as a partial withdrawal beyond basis or a surrender. If the insured dies first, the death benefit is received tax-free, so the deferral can become a permanent exclusion for the beneficiary.
Why the other options are wrong
- A) The cash value growth is not taxed annually as it is credited; tax is deferred until a taxable distribution occurs from the policy. Current-year taxation does not happen. Deferral is the correct rule.
- C) The buildup is not capital gain and is not taxed annually; it grows inside the policy on a deferred basis rather than being marked to market. There is no annual mark-to-market.
- D) The buildup is not never-taxed; withdrawals and surrenders that exceed the basis are taxable, so the deferral is not permanent for living distributions. The tax is only postponed, not erased.
Memory hook
Cash value grows in a tax shelter — the IRS collects only when money comes out.