Tax free death benefit –
What beneficiaries can expect

Is A Life Insurance Payout Taxable?

A named beneficiary of a life insurance policy doesn’t pay taxes when receiving the death benefit proceeds. However, while the policy is in force, and the life insured is alive, there can be taxable events triggered (not including term life insurance). That is why we recommend working with a professional who is *thoroughly* familiar with how to utilize a policy or system of policies without triggering taxable events, during life and after death. If you do not elect to have your named beneficiaries paid immediately after your death, and your proceeds are held for a given period of time by the life insurance company, your named beneficiaries will pay taxes on any interest earned. The good news is the total death benefit is still payable with no taxes due. Now this is rare as most often, death benefit claims are adjudicated and paid fairly quickly. There are circumstances in the estate planning process where the policy owner chooses to have the death benefit proceeds purchase an “annuity” in which the beneficiary receives a stable stream of income, often paid monthly. This is a scenario where the tax free death benefit proceeds are now producing ongoing income and interest earnings would now occur. When your heirs inherit your estate, they might have estate taxes to pay after death benefits are paid to the estate. However this has to do with your estate overall and not specific to the tax free death benefit received.

How Is Your Estate Taxed?

Dealing with an Estate can be stressful or relaxing. The difference between you being stressed or staying relaxed is all in the planning. The reality is that we all must contend with it at some point. That is why good estate planning is key. It is critical to have a named beneficiary on a Life insurance policy to make sure the proceeds are received tax free and bypass probate. If you do not have a named beneficiary or a contingent person then the death benefit proceeds are automatically deemed to be received by your estate. This is not ideal. Let's take a look at what can happen if this occurs.

The first $10,000 is always exempted from tax, and the remaining death benefit proceeds are reported on tax returns by the estate’s beneficiaries. If, for example, the total amount is $40,000, your estate’s beneficiary, which is not the same as a beneficiary declared with a life insurance policy, will report $30,000 to their tax returns.
Again to be clear, this would be reported by whomever is inheriting your estate if you, as the deceased, have not named any specific beneficiary on the life insurance policy. Where there are several beneficiaries that form part of the estate itself, the exempted amount should be shared according to their allocated percentages. For instance, if four recipients are awarded each $10,000 from a lump sum of $ 40,000, each beneficiary will claim a tax exemption of $2,500 (1/4 of $10,000, the exempted amount).

In Summary, always make sure that you have a named beneficiary and consider naming a contingent beneficiary as well on all of your life insurance contracts. Make sure to periodically review this from time to time with a Life Insurance Expert who is clearly familiar with your goals, wishes and objectives.