Policy loans may be tax-free if the policy remains in force.

• A. May be tax-free if policy remains in force
• B. Always taxed
• C. Always tax-free
• D. Taxable if policy lapses

Answer: (A)

Policy loans are typically not taxed as income as long as the policy stays in force. When you borrow against the policy’s cash value, the loan is considered a loan, not a withdrawal, so no immediate tax is due. The death benefit is reduced by the loan amount, but that reduction itself isn’t a taxable event. The tax rules change if the policy lapses or is surrendered with an outstanding loan, because the loan then becomes a distribution to the extent of the policy’s gains and may be taxable. If the policy is a MEC, any loan or withdrawal is taxed as a distribution to the extent of gains. So it’s accurate to say policy loans may be tax-free if the policy remains in force; the tax outcome depends on whether the policy stays active and on whether other exceptions (like MEC status) apply.