Life Insurance Income Tax

One strong selling point of life insurance is the exemption from tax that some insurance companies declare. However, what does an insurance tax exemption mean and how will it impact the proceeds of a policy?

Most people believe that one of the desirable characteristics of life insurance is that its benefits are exempted from tax. This means that the pay out to the family of the insured will not have tax deductions. However, if you are thinking of buying an insurance policy, you must understand that taxes on benefits will depend on the policy being tax-exempt or non-exempt when it is still being paid by the insured.

In insurance circles, there is a particular subject touching on taxation that has to do with either the “old rule” or the “new rule”. Insurance policies that are issued before December 2, 1982 are under the old rule and enjoy exemption from accrual taxation, while policies that are considered under the new rule can either be exempt or non-exempt.

An insurance plan can be considered as non-exempt when it offers an additional benefit such as annuities. Non-exempt insurance plans have tax deductions that will have to be paid either yearly, or every three years. When an insured person who has a non-exempt insurance coverage dies, investment income that will be coming from his policy will still be considered as taxable income. In the case of an exempt insurance policy however, the benefits at death are non-taxable.

In the event that you will be converting or transferring policies in the future, ensure the compatibility of the tax status of the policies because any incompatibility can result to a tax that is very expensive. In addition, it will be best to check with your broker, agent and the company where you have your policy, regarding their guidelines on the taxation of life insurance plans.

The advantage of owning a life insurance is that you have the opportunity to generate a considerable amount of money for your beneficiaries after your death. And the good thing about this is that when the money is paid to your heirs, the cash value is free from income-tax deductions. However, note that although income-free, the sum can still be subject to tax since it is part of your estate.

One way or the other, there may be deductions that your insurance proceeds will have to take because of federal rules and regulations. The important thing to remember is that thinking from a business point of view, you must make smart financial decisions in investments and financial planning. These include the details of your policies such as naming your beneficiary as a real person instead of naming it after your estate in order to avoid any additional hassle or worries on the part of your heirs. Do all these so that when the time comes for you to leave everything behind, you can go with the reassurance that your loved ones will be left behind with a financially secure future.