Minnesota Life Insurance License Practice Exam

Generally, what are the tax options of life insurance for the beneficiary?

1. Taxed at the time of policy maturity

2. Tax-deductible premiums

3. Tax free at the time of the insured's death

4. Taxable if placed in a trust

The correct answer is: Tax free at the time of the insured's death

When a life insurance policy pays out a death benefit to the beneficiary upon the death of the insured, this amount is generally not subject to income tax. This means that beneficiaries receive the full amount of the death benefit without having to pay taxes on it, which is a significant advantage of life insurance. This tax-free treatment applies specifically to the death benefit paid directly to the beneficiaries and is a key reason why many individuals choose life insurance as part of their financial planning. In addition, other factors, such as the way the policy is structured or whether the death benefit is transferred into a trust, can influence tax implications, but the standard provision is that upon the insured's death, the beneficiaries do not incur income tax on the payout received. Thus, the death benefit is an effective means to provide financial security to loved ones without the burden of tax liability at the time of the insured's passing.