Are Life Insurance Benefits Taxed?

Updated: Jun 19, 2020

Life insurance proceeds are generally not taxable to the recipient. The theory behind this is that the person who bought the life insurance paid the premiums with money that they had already paid income tax on.

The IRS writes, in Publication 525, that “life insurance proceeds paid to you because of the death of the insured person aren't taxable unless the policy was turned over to you for a price. This is true even if the proceeds were paid under an accident or health insurance policy or an endowment contract. However, interest income received as a result of life insurance proceeds may be taxable.”

So if you receive money as a result of being a beneficiary on someone’s life insurance policy, you are not going to have to pay tax on it.

What if you end up giving some of that money to other relatives? Will they be taxed on it? Nope! Once that money is awarded to you as beneficiary, it becomes your money to do with as you please. If you choose to give it to others, it becomes a gift. They would not owe tax on it nor would you owe tax in giving the money to them, although if the amount you give is over a certain limit, you might need to add an addition form, Form 709, to your tax return.

Generally, gifts are not considered taxable income to the person who receives the gift. To clarify: if Person A does work for Person B and Person B pays $1,000 to Person A, then that money is considered wages and is subject to being taxed just like the money earned by Person A at his/her job. If Person B gives a gift of $1,000 to Person A, then Person A doesn’t pay tax on the money.