Life is complicated, insurance doesn't have to be.
We get it: Life insurance can be complicated.
It’s further complicated by the fact that everyone’s
situation is different. So, it’s a good idea to contact your tax
professional/financial consultant for specific advice about your
situation. But, for the more general issues, we hope to help guide you
through the winding paths of the tax implications of life insurance.
So, lace up your boots and pack your bag, because we’re
headed straight into your FAQ:
1. Do you have to pay taxes on money received as a life
speaking, you will not have to pay taxes on life insurance
proceeds you receive as a beneficiary. If life insurance
premiums are paid with after-tax dollars, there should not be a
taxable event to the beneficiary.
A possible exception is
if the life insurance policy was part of a compensation package.
In some cases, the employer may pay the premiums and write it off
on their taxes as a business expense. This could possibly result
in the beneficiaries paying taxes on the funds they receive.
Typically, beneficiaries are not taxed.
more: The Gift of Life Insurance for Children
2. Are life insurance premiums tax-deductible?
If you are an individual paying life insurance premiums on
your personal policy, no. Your premium payments are not tax-deductible.
If you are an employer, it’s best to talk to your tax
adviser. It is possible that if you, as an employer, are paying
the premiums for your employees’ polices they may be tax-deductible.
3. How can somebody be sure their beneficiaries won’t
have to pay taxes on their death benefit?
The short answer: pay your premiums with your taxed earnings.
taxes have to be paid at some point. So, as long as
you are making the premium payments, your beneficiaries
shouldn’t have to pay taxes on their funds.
your life insurance policy is part of a compensation package from
your employer, your beneficiaries may need to pay taxes on the
funds they receive. This is because your employer may write off
the premium payments they provide on their taxes, which means the
taxes aren’t paid.
4. What is taxable gain on life insurance?
The taxable gain is the dollar amount you receive from
the cash value of your policy, minus the premium payment(s) you paid
into your life insurance policy.
This only applies to life insurance policies that generate a
cash value, and are surrendered before the death of the person whose
life is being insured.
An example might help!
Let’s say you have a whole life insurance policy with
Auto-Owners (of course). If you decide to “cash out” or “surrender”
your policy early, you will receive the cash value of your policy.
So, let’s say you paid $15,000 in premium payments on your
policy so far. During this time, your policy accumulated a $20,000
cash value. So, that $5,000 difference is considered your gain and
is therefore taxable because of the interest that accrued on your policy.
Now, before you get any ideas, please remember the goal of
life insurance is to provide financial help after the loss of a
loved one. It is not an investment strategy.
more: Whole Life Insurance vs. Term Life: What You Need to Know
5. Do you have to pay taxes when cashing in a life
This is an emphatic yes!
Remember, the goal of life insurance is to provide financial
help after the loss of a loved one. It is not an investment
strategy. This is why the federal government taxes the gains when an
individual cashes in the life insurance policy.
When you “cash in” a life insurance policy with a cash value,
you are taxed on the gains. Your taxable gain is the dollar
amount you receive from the cash value of your policy, minus the
premium payment(s) you paid (read question four for a detailed example).
Each situation will be different, but expect taxes.
more: How to Help Your Small Business Employees Save for
Retirement (with Annuities)
Overall, it’s a good idea to talk with your financial
consultant/tax adviser/independent insurance
agent/attorney/CPA/accountant. It’s worth the time, and your peace of mind.
Published February 17, 2021
*Products referenced may not be
approved/available in all states. Limitations and conditions
may apply. Premium will be based on benefits chosen and
policy rates available at time of application.
Disclaimer: This article is not expert advice. The
analysis of coverage is in general terms and is superseded
in all respects by the Insuring Agreements, Endorsements,
Exclusions, Terms and Conditions of the Policy. Some of the
coverage mentioned in this material may not be applicable in
all states or may have to be modified to conform to
applicable state law. Some coverages may have been
eliminated or modified since the publishing of this
material. Discounts may not be available in all states.
Limitations and conditions may apply. Premiums will be based on
benefits chosen. Please check with your local Independent
Auto-Owners Insurance Agent for details."
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