Withdrawal to basis rule test refers to the analysis of how withdrawals from life insurance or annuity contracts are taxed relative to the owner's investment in the contract (basis). For non-MEC life insurance policies, withdrawals up to basis are generally treated as a recovery of cost and are not taxable, while amounts above basis are taxed as ordinary income. In contrast, annuities and MECs use last-in, first-out rules, treating withdrawals as earnings first. Advisors and tax professionals perform a withdrawal to basis rule test to determine how much can be accessed tax efficiently and whether loans or policy changes could alter tax treatment. Understanding this test is critical when designing income strategies or partial surrenders from cash value policies.

Advisors apply the withdrawal to basis rule test when planning policy distributions to supplement retirement income, fund premiums on other policies, or reposition cash values. They coordinate with carriers to confirm basis, withdrawal history, and MEC status before executing transactions. Illustrations may model sequences of withdrawals and loans to maintain favorable tax treatment, and advisors explain how policy changes or excessive withdrawals could trigger taxable events or MEC reclassification. Understanding the withdrawal to basis rule test helps advisors structure tax-efficient access to policy values, avoid surprises at tax time, and align distribution strategies with long-term coverage and estate planning goals.