What are the Disadvantages of a 1035 Exchange with Life Insurance?
It's not for everyone. Be careful. Once you implement an exchange, there is no turning back. Typically, the entire Cash Value from the old policy is transferred to the new policy and the old one terminates. Once complete, you can’t change your mind and get the old policy back.So, here are some reasons not to do a 1035 exchange and things to watch out for:

The Gotchas
If you are unhealthy, you may not qualify for a new policy. Or, you may qualify, but at higher rates, making the new policy more costly than the old one.
Do not submit a formal application. If you submit a formal application and do not qualify, those results could be available to other carriers in the future. This occurs whether you implement the new policy or not. Instead, ask the new carrier(s) if they will agree to informally review your medical data up front.
Loans can cause confusion for an inexperienced insurance advisor. Most are not aware of the "boot" rules governing loans. This could cause unnecessary taxes and unexpected costs. To make matters worse, each insurance company has their own set of rules regarding how they treat existing loans when a policy is exchanged.
Guarantees: Understand your current policies before you exchange them. Don’t exchange a perfectly good policy with premium guarantees for one without.
Cash Value "haircut": Odds are, the cash value carried over from the old policy will be reduced after the exchange. This could be significant! Be aware of the impact before you make the exchange.
The Contestability Period starts again: Two years in most states. Remember, the old policy you have is most likely beyond that period. You will need to read each policy to see the specifics, but in general during the policy contestability period, the insurance company can contest or question the death claim by reviewing the original application for accuracy. Problems occur if information was omitted that would have caused the company not to issue the policy. For that reason it is very important that you complete the application as accurately and completely as possible.
Do not submit a formal application. If you submit a formal application and do not qualify, those results could be available to other carriers in the future. This occurs whether you implement the new policy or not. Instead, ask the new carrier(s) if they will agree to informally review your medical data up front.
Loans can cause confusion for an inexperienced insurance advisor. Most are not aware of the "boot" rules governing loans. This could cause unnecessary taxes and unexpected costs. To make matters worse, each insurance company has their own set of rules regarding how they treat existing loans when a policy is exchanged.
Guarantees: Understand your current policies before you exchange them. Don’t exchange a perfectly good policy with premium guarantees for one without.
Cash Value "haircut": Odds are, the cash value carried over from the old policy will be reduced after the exchange. This could be significant! Be aware of the impact before you make the exchange.
The Contestability Period starts again: Two years in most states. Remember, the old policy you have is most likely beyond that period. You will need to read each policy to see the specifics, but in general during the policy contestability period, the insurance company can contest or question the death claim by reviewing the original application for accuracy. Problems occur if information was omitted that would have caused the company not to issue the policy. For that reason it is very important that you complete the application as accurately and completely as possible.
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