Will My Life Insurance Policy Have Any Tax Implication?

Getting life insurance for you and your family helps to secure your financial future to a reasonable degree. When assessing whether a specific plan makes sense to you before buying, you’ll need to consider more than just the coverage offered and premium rates. Understanding taxes on life insurance premiums is also a crucial step toward finding a policy that suits your financial goals.

Here are some of the tax implications that come with having life insurance.

Taxation on Life Insurance Premiums

The life insurance premiums you pay are not income and therefore do not attract a sales tax. When you get a quote for a plan, you’ll be paying the quoted amount without any extra fees going to the Internal Revenue Service (IRS). However, there will be some tax implications when your employer pays for your life insurance coverage.

Taxes on Employer-Paid Premiums

Employers can include life insurance coverage as part of a compensation package. To the IRS, the coverage cost paid for by your employer is income. As with any earnings, such funds are taxable when they exceed a specific range, usually the premium costs for coverage above $50,000. However, the IRS won’t tax the employer-provided premium payments for life insurance coverage not exceeding $50,000.

For example, if your employer pays premiums for life insurance coverage worth $100,000, the cost for the extra coverage is taxable. As such, the IRS will look to tax the payments your employer sends to your insurer for the extra $50,000 in coverage. If the entire monthly premium is $100 and the cost for additional coverage is $50, the IRS will only tax the latter.

What About Prepaid Life Insurance?

Instead of paying monthly or periodic life insurance premiums, some plans may allow you to pay the entire cost beforehand. The upfront payment is a type of investment as it can accumulate interest. The accrued value is income that the IRS may tax depending on how and when you use it. For example, if you use the interest toward a premium payment, the used amount will be taxed. The same is true for any portion of the interest you withdraw for any other use.

Whole Life Insurance Taxes

Term life and whole life insurance are the basic coverage options available to consumers. Many whole life plans include an investment component besides providing a death benefit. With such a plan, a part of the premiums you pay goes into a cash value accruing account. While the accrued interest is considered taxable income, you don’t have to pay any taxes on it every year unless you use it in some way.

If you hold a whole life insurance policy and decide to withdraw the cash value today, the IRS would only tax the interest. The amount of money you’ve paid in premiums so far wouldn’t be taxed. However, using a portion of the interest to pay for premiums is a taxable transaction.

Contrary to common misconception, you will not be taxed for taking a loan against the cash value of the policy. The loan amount isn’t income, and it wouldn’t make sense for the IRS to tax it. You’ll still need to repay the loan to avoid negatively impacting the death benefit or cash value component of your life insurance policy.

These are some of the factors that can impact paying taxes on life insurance premiums. If you’d like to learn more about various life insurance options, contact the team at John E. Peakes Insurance Agency. We can help you get custom coverage based on your health and financial needs.

By John E. Peakes Insurance Agency

Since we opened in 1969, John E. Peakes Insurance Agency Inc. has provided personalized insurance solutions for local families and businesses. As an independent agency, we can offer our clients a wide range of coverage options from over 30 carriers. From homeowners and auto insurance to business coverages such as commercial property and general liability insurance, we have the policies that you need.

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