Insurance Curator We understand that life insurance may be complex.
It’s compounded further by the fact that everyone’s scenario is unique. As such, it is prudent to get particular guidance from your tax professional/financial counselor on your case. However, for more general difficulties, we want to assist you in navigating the twisting roads of life insurance tax effects.
Therefore, buckle up your boots and pack your belongings, because we’re about to dive into your FAQ:
Are you required to pay taxes on money received as a beneficiary of life insurance?
Are life insurance premiums deductible for tax purposes?
How can someone be certain that their beneficiaries will not be taxed on their death benefit?
What is the definition of taxable gain on life insurance?
Are taxes due when you cash in a life insurance policy?
- Are you required to pay taxes on money received as a beneficiary of life insurance?
In general, you will not be required to pay taxes on the life insurance profits received as a beneficiary. If life insurance premiums are paid using after-tax monies, the recipient should not experience a taxable event.
An exemption may apply if the life insurance coverage was included in a remuneration package. In certain circumstances, the employer may pay the premiums and deduct them as a business expenditure on their taxes. This may require recipients to pay taxes on the cash they receive.
Beneficiaries are often not taxed.
2. How can an individual be certain that their beneficiaries will not be required to pay taxes on their death benefit?
The quick answer is that you should pay your premiums from your pre-tax earnings. Simple, isn’t it?
In essence, taxes must be paid at some time. As long as you continue to pay the premiums, your beneficiaries should avoid paying taxes on their money.
However, if your life insurance policy is included in your employer’s compensation package, your beneficiaries may be required to pay taxes on the income they receive. This is because your company may claim a tax deduction for the premium payments they make, which means the taxes are not paid.
3. Are life insurance premiums deductible for tax purposes?
If you are an individual paying personal life insurance premiums, the answer is no. Your premium payments are not deductible for tax purposes.
If you are an employer, it is important to consult a tax professional. It is conceivable that the premiums for your workers’ policies are tax deductible if you pay them as an employer.
- How much of a gain on life insurance is taxable?
The taxable gain is the difference between the cash value of your policy and the premium payment(s) you made into the policy.
This is true only for life insurance policies that have a monetary value and are relinquished before to the covered person’s death.
An illustration may be helpful!
Consider the following scenario: you own a full life insurance policy. If you choose to “cash out” or “surrender” your insurance prematurely, you will get the policy’s cash value.
Assume you’ve already paid $15,000 in premiums on your coverage. Your coverage accrued a cash value of $20,000 over this time period. As a result of the interest collected on your insurance, the $5,000 difference is deemed your gain and is so taxable.
Before you have any notions, keep in mind that the purpose of life insurance is to give financial assistance in the event of a loved one’s death. This is not a financial plan.
- Is there a tax consequence for cashing in a life insurance policy?
This is an unequivocal yes!
Bear in mind that the purpose of life insurance is to give financial assistance in the event of a loved one’s death. This is not a financial plan. This is why the federal government taxes the earnings on life insurance policies when a person cashes them in.
When you “cash in” a cash-value life insurance policy, the profits are taxed. Your taxable gain is the difference between the cash value of your insurance and the premium(s) you paid (read question four for a detailed example).
Each circumstance will be unique, but anticipate taxes.
In general, speaking with your financial consultant/tax adviser/independent Bolder Insurance advisor/attorney/CPA/accountant is a smart idea. It’s time well spent, as is your peace of mind.