Q

Q

Is life insurance tax-deductible?

A

A

Short answer: no. Life insurance premiums are not tax-deductible. However, there are exceptions for some business owners who offer life insurance as an employee benefit.

Zack SigelRebecca Shoenthal author photo

Zack Sigel & Rebecca Shoenthal

Published August 18, 2020

KEY TAKEAWAYS

  • Life insurance premiums are considered a personal expense and are not eligible for tax deductions

  • If you paid premiums for someone else’s policy (such as an employee or ex-spouse), you may be entitled to deductions

  • Any death benefit payment you receive after the death of a loved one is not considered income and is not subject to taxes

When you have a life insurance policy, the life insurance company will pay out a death benefit when you die. You decide ahead of time who receives the benefit, and then all you have to do is to keep your policy active by making regular payments.

The monthly (or annual) payments you make to keep a policy active are your premiums. Premium payments are typically affordable — especially with term life insurance — but your payments can add up over time.

Unfortunately, your life insurance premiums are not tax-deductible, with rare exceptions. Basically, you can never deduct life insurance premiums from your taxes if you bought a policy for yourself (meaning it pays out upon your death). The only exceptions are when you pay premiums for someone else’s policy.

Premiums for self-employed individuals are not not tax-deductible, even though they can deduct other expenses, like health insurance premiums.

IN THIS ARTICLE

Quick review: what is a tax deduction?

According to the Internal Revenue Service (IRS), an income tax deduction reduces how much of your income you actually have to pay taxes on. You generally qualify for tax deductions when you spend money on certain things throughout the year, (like mortgage interest. Then, you can account for that spending on your tax return by excluding it from your taxable income.

If you had $50,000 in taxable income, but you qualify for $5,000 in tax deductions, you only have to pay taxes on $45,000 of your income. Your income minus deductions gives you your adjusted gross income (AGI), and then you apply the income tax brackets to determine how much you actually have to pay in taxes.

Why isn’t life insurance tax-deductible?

Life insurance usually isn’t tax-deductible, because it’s considered a personal expense, just like clothing or other product purchases. Neither the federal government nor any state requires you to buy life insurance.

(This is why premiums for disability insurance aren’t tax-deductible, either.)

The upside is that when you die and your beneficiaries receive the death benefit, the payout is tax-free, as long as you paid the premiums yourself. A benefit payment is not considered income on your income tax return.

When is life insurance is tax-deductible?

There are a couple of cases where you can deduct your life insurance premiums on your tax return. They apply when you are paying premiums for someone else’s life insurance policy, and they have their own exceptions to consider.

When your business offers life insurance as an employee benefit

Certain types of business owners can deduct premium payments they make for their employees. This can apply to LLCs, S corporations, and sole proprietorships.

To qualify, you must provide life insurance as an employee benefit and neither the business owner nor the company can stand to benefit from the policy. That means employers cannot deduct premium payments if the employer or the company is the beneficiary for an employee’s policy.

You also may not qualify if you and your spouse are in business together. Let’s say you’re a business owner, your spouse is an employee, the company pays your spouse’s life insurance premiums, and you are the beneficiary. You (the business owner) would benefit from an employee’s policy, so the premiums aren’t tax-deductible even though the employee is your spouse.

There’s one other exception to know. You can only deduct premiums for the first $50,000 of insurance coverage for each employee. Any amount of coverage you pay for beyond that is considered wages for the employee. You will need to report it on their W-2 form and the employee will pay taxes as with other income. This greatly limits the usefulness of the deduction since most people need a life insurance policy that’s 10 to 12 times their income.

When you have an alimony agreement that went into effect before 2019

If you have an alimony agreement or divorce decree that went into effect before 2019, and it requires you to purchase a life insurance policy on behalf of your ex-spouse, it’s possible to deduct your premium payments. If you already have a life insurance policy and your alimony agreement says you have to name your ex-spouse as the beneficiary, those premiums are not deductible.

Any alimony agreements that took effect in 2019 or later are not eligible for this deduction because of recent tax code changes. For more on what you can deduct this year, see our guide to filing this year’s taxes.

If you need more help understanding whether your premium payments are tax-deductible, it’s best to talk with a tax professional.

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Do you ever pay taxes on life insurance?

Under normal circumstances, beneficiaries don’t have to pay taxes on life insurance benefits and you don’t need to pay any taxes on your policy during your lifetime. There are a few instances when you have to pay taxes on your life insurance, though. This generally applies to insurance policies that have a cash or investment component (like permanent life insurance policies).

We’ll highlight a few instances below but you can learn more in our guide to when life insurance is taxable.

Your life insurance policy gained interest

Term life insurance is enough for most people’s needs. You get life insurance coverage for a certain number of years (the term) and then you stop making payments when the term ends. Some people prefer a whole life insurance policy, which covers you for the rest of your life. Whole life policies have a cash-value component that works like a savings account and can gain interest. Interest you earn can be taxed.

The cash-value aspect of whole life is unique, so here’s an article on how whole life insurance works to help you understand it.

If you buy life insurance from someone else

It’s possible to sell your life insurance policy for cash. Whoever you sell it to will continue to make the premiums on the policy and will also get the death benefit when you die. In return, you get a lump-sum cash payment when you sell.

If you buy someone’s life insurance policy, you may have to pay taxes on part of the death benefit.

Selling a life policy, called a life settlement, usually isn’t the best option. For example, you can decrease the size of the benefit if you want lower insurance premiums. But here’s when you should consider selling your life insurance policy.

If you surrender your life insurance policy for cash

As mentioned earlier, whole life insurance policies have a cash-value component. This is like a savings account you can withdraw from, but the size of your benefit goes down when you withdraw money. This is called a cash surrender and it’s useful if you need money in a pinch, but you will pay taxes on any cash-surrender value that exceeds the value of the total premiums you’ve paid.

The bottom line

Life insurance premiums on your policy are not tax-deductible. However, in the rare situation that you pay for someone else’s premiums (such as an employee or as part of an alimony agreement) you can claim a deduction.

If you receive a death benefit payment from a policy, you do not have to pay taxes on the lump sum, only on interest earned if you choose annuity payments.

Policyholders of certain types of permanent life insurance, such as whole or universal life, are required to pay taxes on any interest earned for the cash value. This applies if you surrender your policy for cash or if you “settle” and buy someone else’s life insurance policy.

About the authors

Managing Editor

Zack Sigel

Managing Editor

Zack Sigel is a SEO managing editor at Policygenius. He covers personal finance, comprising mortgages, investing, deposit accounts, and more. His previous work included writing about film and music.

Insurance Expert

Rebecca Shoenthal

Insurance Expert

Rebecca Shoenthal is an insurance editor at Policygenius in New York City. Previously, she worked as a nonfiction book editor. She has a B.A. in Media and Journalism from the University of North Carolina at Chapel Hill.

Policygenius’ editorial content is not written by an insurance agent. It’s intended for informational purposes and should not be considered legal or financial advice. Consult a professional to learn what financial products are right for you.

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