Is Life Insurance Taxable?
Jeffrey Johnson is a legal writer with a focus on personal injury. He has worked on personal injury and sovereign immunity litigation in addition to experience in family, estate, and criminal law. He earned a J.D. from the University of Baltimore and has worked in legal offices and non-profits in Maryland, Texas, and North Carolina.
He has also earned an MFA in screenwriting from Chapman Univer…
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Written by
Jeffrey Johnson
Insurance Lawyer
Benjamin Carr was a licensed insurance agent in Georgia and has two years’ experience in life, health, property and casualty coverage. He has worked with State Farm and other risk management firms. He is also a strategic writer and editor with a background in branding, marketing, and quality assurance. He has been in military newsrooms — literally on the frontline of journalism.
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Reviewed by
Benji Carr
Former Licensed Life Insurance Agent
UPDATED: Dec 8, 2021
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The Facts of Life
Most death benefits aren’t taxable
Earned interest on some benefits are taxable
Discuss how your insurance can be taxed before you start the policy
Is life insurance taxable? While death benefits generally won’t be taxable, there are still some instances when your beneficiaries may have to pay income tax on your life insurance proceeds. Advanced planning and understanding your policy’s terms can keep your beneficiary from paying too much in taxes.
Curious about rates for when life insurance is taxable? Enter your ZIP code into our free quote tool to see what you could pay today.
Are life insurance proceeds taxable?
Is life insurance taxed? While you won’t find life insurance taxable in some cases, there are still instances when you’ll have taxable life insurance benefits.
According to the Internal Revenue Service, death benefits associated with a life insurance policy aren’t taxable in almost all instances. However, your beneficiary would have to pay taxes on any interest accrued on that money.
Do you have to pay taxes on life insurance?
Do you pay tax on life insurance? The life insurance tax is often overlooked when insurers tell you that you can get untaxable proceeds from life insurance. As a generalized statement, it can be a little misleading.
There are still instances when you’ll have to pay for taxes on life insurance proceeds. Some cases where you get the money from the insurers are taxable, including:
Earned interest
Estate and inherited taxes
Cash value
Are these benefits taxable? While the specifics vary on these examples, you will own taxes at some point on your insurer payouts with these features.
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When do you have to pay taxes on life insurance?
In most cases where you are earning an unfixed amount over time, you’ll have to file and pay the taxes on it. As previously mentioned, some examples include cash value, interest, and estate.
While these are just a few examples, talk with your insurer before starting the policy to discuss how your life insurance will affect your taxes.
How does cash value impact life insurance taxes?
Cash value is one of the best whole life insurance benefits, as it saves a portion of your premiums into a savings account each time you pay.
Cash value is on a tax-deferred status, allowing you to earn more in the savings account while the policy is in effect. However, the cash value isn’t free from getting taxed, just delayed. For example, you’ll be taxed when you withdraw an amount or give the cash value to your beneficiary. Beneficiaries in these circumstances should talk with a financial planner or tax professional to minimize the amount of tax they may pay.
What is interest income on life insurance?
According to the IRS, any interest received on your policy is likely taxable, even if the death benefit is not. For instance, if your insurance company informs you of any savings accounts that grow, your cash value or death benefit over time will be taxable.
What are estate and inherited taxes?
An estate tax is what your beneficiaries will pay when they transfer ownership of the property after you die. The property will be assessed as of the owner’s date of death to determine a fair market value. This Gross Estate consists of:
Cash
Real estate
Trusts
Business interests
If the ownership of something is being transferred from your name to another party, you’ll likely have to pay the taxes for its estimated value before you can claim ownership.
How can I avoid taxable income on life insurance?
If you’re looking to avoid the taxes on your estate, there is a way that you can achieve this. While it won’t protect you entirely from taxes, you can still save your beneficiaries a fair amount of money by planning ahead.
How can I use a life insurance trust to avoid taxes?
To avoid paying taxes on any life insurance benefits yourself, you can enroll in an irrevocable life insurance trust. When you sign up for the ILIT, you guarantee that:
You no longer have rights to the policy
The owner is someone you approve
The policy is no longer a part of your estate
If you execute this type of trust correctly, you can avoid estate taxes by removing the money from your estate. It can also help users avoid gift taxes if you complete a Crummey Trust letter. These are just a couple of the potential tax benefits of an ILIT. Discuss with your insurer or consult a financial planner to be sure.
Taxable Life Insurance: The Bottom Line
While the death benefit on most life insurance policies isn’t taxable, that’s not universally true. Other life insurance proceeds like interest and cash value will be subject to taxation. Therefore, it’s wise to discuss any taxes on your policy with your agent before you enroll in it.
Are you looking for quotes for when life insurance is taxable? Enter your ZIP code into our free quote tool to see what you could pay.
