Are Life Insurance Payouts Taxed?

Ever wondered whether life insurance benefits are subject to tax? This quick guide will help clear things up.
Are Life Insurance Payouts Taxed?

Life insurance can provide a crucial safety net for your family and loved ones, but there are two key questions to ask when thinking about it in terms of tax. First; do taxes apply to life insurance payouts or benefits? And second; can life insurance premiums be tax deductible? Outlining the main types of life insurance will help answer these questions.

The Different Types of Life Insurance

Life Insurance (in Case of Death) is also known as term life insurance, and can pay out a lump sum to designated beneficiaries in the case of the policy holder’s death. Some policies will provide an early payout if the person is living with a serious terminal illness.

Total Permanent Disability (TPD) Insurance can pay out if the policy holder suffers an illness or injury that prevents them from working in any capacity. Sine the person insured is still alive, benefits are typically paid to them rather than to their family. Funds can often help with rehabilitation and longer-term care.

Critical Illness Insurance can pay out if the policy holder suffers a serious medical event or illness. This might include events like a heart attack, stroke or paralysis. The payout is often used to help pay for medical treatment, rehabilitation and the stages of recovery.

Income Protection Insurance can provide a benefit - usually in the form of monthly instalments - in case a person is unable to work due to sickness or injury. 

Are Life Insurance Payouts Taxed?

There is different tax treatment depending on the type of cover and whether or not the cover is owned via super. Generally speaking, life insurance, TPD and critical illness are not taxed on payout if the cover is held outside of super (although TPD and critical illness can be taxable if the policy is owned by a third party). Life and TPD payouts in super can be tax free in some circumstances (eg, a life insurance payout on a super-owned policy made to a spouse is generally not taxable whereas a TPD payout to the super member aged under 60 generally is taxed). Payouts made under income protection insurance outside of super are generally taxable. 

Are Any Types of Life Insurance Tax Deductible?

When considering whether life insurance premiums can be deducted from your taxes, the following generally applies:

  • Life insurance, critical illness and TPD insurances purchased outside your superannuation are not tax deductible.
  • TPD insurance purchased within your superannuation is tax deductible.
  • Income protection insurance is usually tax deductible regardless of how you purchased it.

Tax Deductions depending on Superannuation

Although the ATO specifies that life insurance (in case of death) taken out via a super fund is not tax deductible, there is an exception to be explored for those with a Self-Managed Super Fund. This type of super fund may allow for tax deductions on life insurance premiums, but as always, it is best to discuss these options with an accountant or financial adviser.

Wrap up

When purchased outside of superannuation, life insurance, TPD and critical illness is not tax deductible. The notable exception is income protection insurance as the purpose of income protection is to cover lost income. Always consult a professional about the different considerations when claiming tax deductions on insurance premiums.

Disclaimer: The content of this blog is intended to provide a general guide to the subject matter. This blog should not be relied upon as legal, financial, accounting or tax advice.

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