Use the IRS Tax Code to Your Advantage to Keep More of What You Make
Most people probably don’t consider their life insurance policies when tax season rolls around. Perhaps they should.
Of course, life insurance’s primary function is to help protect loved ones in the event of your passing. But life insurance, in particular whole life insurance, can also help you and your beneficiaries manage tax consequences to a certain degree.
The three advantages outlined here apply to whole life insurance and other permanent insurance policies. The first one applies to term insurance policies as well. (Learn more about different types of insurance .)
1. The death benefit is generally paid out income tax free.
That’s a pretty straightforward advantage for your beneficiaries. Life insurance policy payouts can be pretty hefty and avoiding a major tax bite can be consequential. By contrast, the government will typically tax most retirement plan proceeds when taken by beneficiaries.
There are instances where federal and state estate taxes can kick in on the proceeds of a life insurance payout, depending on particular circumstances.
2. The total cash value accumulates on a tax-deferred basis.
Whole life insurance builds up cash value over time as you pay premiums. This is money that grows without the IRS taking a bite. And it can become an important nest egg for your future.
3. You can access the cash value of the policy on a tax-advantaged basis.
Money borrowed or taken from the cash value of a life insurance policy is not subject to taxes up to the “cost basis” – the amount paid into the policy through premiums.