What is a "modified endowment contract" (MEC)?

A modified endowment contract (MEC) is defined as a life insurance policy that surpasses the cash value accumulation limits set by the Internal Revenue Service (IRS). When a policy is classified as a MEC, it undergoes different tax treatment than standard life insurance policies. This designation usually occurs when the premium payments made during the first seven years of the policy exceed certain limits, thus providing the policy with significant cash value that could be accessed by the policyholder.

It's important for policyholders to be aware of the implications of a MEC, particularly regarding tax liabilities. Withdrawals and loans taken against the cash value of a MEC are subject to taxation on the gains, which is different from non-MEC life insurance policies where such distributions may be tax-free until the death benefit is claimed. The classification as a MEC can impact financial planning strategies, particularly for individuals considering life insurance as an investment vehicle.

The other options do not accurately capture the essence of what constitutes a MEC. For instance, a policy that accrues low cash value does not address the specifics of IRS guidelines related to MECs. A temporary life insurance plan is more aligned with term insurance products, while a standard whole life insurance policy generally does not qualify as a MEC because it typically adheres