Tax On Life Insurance

Published: November 2, 2017

Generally, a life insurance payout to your dependents won’t be taxed and can be paid as either a lump sum or income stream. However, the tax-free status of death benefits can be affected when purchased via a superannuation fund and/or is paid out to non-dependants.

Use this guide to help you navigate through the confusion of life insurance and taxes:

Are life insurance premiums tax deductible?

Life insurance premiums are tax-deductible if you’re self-employed and your policy is owned by and purchased through a superannuation fund. However, if your life insurance policy is privately owned, then your premium payments are generally not tax deductible.

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The premiums for a policy that is owned by a superannuation fund are tax-deductible to the fund because Super-owned policies are typically paid with pre-tax dollars.

There is a 15% contributions tax applied on super contributions, including insurance premiums. However, these are typically refunded in the form of a rebate to members (the life insured) as the fund can claim it as a tax deduction.

Under a keyman structure, premiums are often tax deductible, but benefits are taxable. This is due to the policy being owned by a company or business partner.

Is life insurance payout taxable in Australia?

Whether your life insurance payout is taxable in Australia generally depends on how your policy is owned and who your beneficiaries are. For instance, a life insurance benefit paid directly to your spouse or financial dependant is not subject to taxation.

  1. Inside Super: You bought your life insurance through a superannuation fund, so the payout can be taxed if paid to non-financial dependants with a tax rate of up to 35%. However, your payout won’t be taxed if your death benefits are paid to a financially dependant beneficiary, for example, your spouse or children.
  2. Outside Super: Tax on a benefit is subject to the beneficiaries and is not determined by super or non-super ownership. So, the lump sum benefit could be taxed in either circumstance but is almost always taxed when owned by a business or business partner, or when paid to a non-financial dependant or adult child.

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Life insurance inside vs outside superannuation

Tax for life cover Outside Super Inside Super
  • Premiums are not tax deductible.
  • Premiums are usually deductible when premiums are paid from your pre-taxed income. Your super fund can claim the refund on your premiums and then pass it on to you.
  • Payouts are usually not taxed when paid to your dependants.
  • Payouts can be taxed up to 35% if paid to non-financial dependants.
  • Payouts are usually not taxed when paid to your dependants.
  • Payouts can be taxed up to 35% if paid to non-financial dependants.

Just because premiums are tax deductible under a Super fund, does not mean it’s the best option for you, especially considering your beneficiary might have to pay taxes on your death benefit.

When choosing how you’ll purchase your life insurance, you should carefully consider your personal circumstances and needs.

How does life insurance payout?

Generally, your life insurance policy will pay a lump sum to your nominated beneficiary. You can also choose to have your insurer pay the money to your beneficiary at a later date or in a series of instalments. If you do not nominate a beneficiary, your death benefit will be paid to your estate and divided according to your Will and Testament.

Average life insurance policy payout

Your life cover payout amount depends on the policy you purchase and the amount of cover you took out. That’s why it’s crucial to read your policy disclosure statement (PDS) and policy schedule to make sure you know precisely what will happen in the event of your death or diagnosis of a terminal illness. That said, the majority of life insurance payouts range from $100,000 to $2,000,000.

However, most insurers don’t have a minimum benefit limit, plus maximum benefit amounts are only restricted by a client’s justifiable need.

Will my beneficiaries have to pay tax on my life insurance payout?

Usually, your death benefit will be paid to your spouse and/or dependants as a tax-free lump sum. However, there are a few instances in which your beneficiaries might have to pay tax on the life insurance payout.

Your beneficiaries might have to pay taxes if:

  • Your beneficiaries are not financially tax dependants as defined in the Income Tax Assessment Act 1997, this typically refers to a child over the age of 18 who is no longer financially dependent on you at the time of your passing.
  • The executor of your will holds onto the death benefits after your death, any interest earned during the holding period could also be taxable as part of your beneficiaries’ income.
  • The ownership of your life insurance policy is held by a third party or business before your death for monetary value or other consideration.

Life insurance and taxes are complicated, which is why it’s best to consult with a qualified professional when planning how you’ll support your family after death.

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SIS dependant vs tax dependant

SIS dependant: A superannuation death benefit can only be paid to a person or entity that is dependent under the Superannuation Industry (Supervision) Act 1993 (SIS Act 1993).

Tax dependant: Dependant under the Income Tax Assessment Act 1997 (ITAA 97), which will determine the tax paid, but not the eligibility of the person to receive the benefit.

In other words, although a child of any age is a SIS dependant, only a child under 18 is a tax dependant. Also, while a former spouse is considered a tax dependant, only a current spouse is a SIS dependant.

Where an individual has no dependants under the SIS Act, their superannuation will be passed as a lump sum to their legal representative, usually the executor of their Will (assuming they have one).

How is life insurance paid out to beneficiaries?

Your life insurance policy is paid out to your appointed beneficiaries in the form of a lump sum, or in a series of instalments. Who you choose to nominate as a beneficiary to receive this payout is an important consideration, because it can mean the difference between the money going to your family or paying outstanding debts.

If there are no nominated beneficiaries the payout is directed to your Will and will become part of your ‘residual Estate’ and paid to your residual beneficiaries at the discretion of the Executor of your Will.

More questions about death and taxes

How do I get tax-free life insurance?

When your life insurance is paid out to your dependants, for example, your spouse or child, the benefit will usually be tax-free. However, the payout will generally be taxed if your cover is through a super fund and pays out to a non-dependant, like your business partner or adult child.

When to consider a life insurance policy to cover inheritance tax

In Australia, the once-off fee called ‘inheritance tax’ has been abolished and replaced by a variety of taxes that your beneficiaries may be responsible for. The Capital Gains Tax, for example, is what your beneficiary will pay on the capital gain on the sale of assets.

Whether they pay any taxes, however, depends on the type of gift received under your Will and the way in which the gift was given. For example, if you give your spouse a property in the Will, then when and how much the property is sold for will determine if your spouse will pay any taxes.

More and more Australians are turning to life insurance to provide their loved ones with financial security should they pass away. Take control of what will happen to your family’s financial future by comparing policies and choosing the right one for your specific requirement.

Disclaimer: We do not provide tax advice and are not professional tax advisors. If you need information regarding your personal financial situation, please contact your accountant or tax consultant for assistance.

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  • dawn |

    Hi. I cancelled my life insurance policy, so I could use the 2 1/2 grand towards my home deposit. Do I need to pay tax on this?

      Anneke Van Aswegen |

      Hi Dawn.
      You do not have to pay tax on a cancelled life insurance policy and you will no longer be able to claim a payout.

  • karyn |

    What is the tax rate on a life insurance payout when the deceased did not nominate a beneficiary?

      Anneke Van Aswegen |

      Hi Karyn,
      When no beneficiary has been nominated on a life insurance policy, the benefit amount will usually go to your estate and be paid according to your will.

      The tax treatment of death benefits paid to the estate depends on if the policy was held inside super and whether the beneficiaries named in your will is financially dependent on you if so the lump sum is generally tax-free. If beneficiaries are not financial dependents, the tax rate can be up to 35%.

      If the life insurance policy is not held inside super and the policy was a personal policy and the policy owner was the life insured (for example) then generally the benefits can be paid to anyone and the benefit payment is generally tax free.

      When your will does not mention how the money must be spent, the benefit payment will typically pass to your residual estate, meaning the people identified in your will shall typically receive what’s left after all other debts have been paid.

  • Tarsh |

    Hi there. My daughter passed away in May last year. She had no dependants or partner. Me, her mum, and dad each received half of the payout from her Super, which was taxed.

    My question is, do I need to include the payout on my tax return? Also, her dad did not earn any income for the financial year, does he need to do a tax return?

      Anneke Van Aswegen |

      Hello Tarsh.
      My condolences to you and your husband on the loss of your daughter.

      I wish I were able to help but this is a very specific taxation question and as we are not professional tax advisors, I would recommend you seek assistance from your accountant or tax consultant.

      All the best.

  • Peter Alan Hudson |

    My wife and I are pensioners. I am retired aged 71 and my wife is 69 years old. Our son died on April 6th. 2018 aged 39.

    He had superannuation with Host Plus amounting to $28,000 and a life insurance policy as part of his super with a value of $232,000.

    I was his nominated beneficiary. The payout was taxed at a rate of 25%, so we received an amount of around $197,000 a loss of $63,000.

    I gave them my tax file number prior to payout and I would like to know if the tax % is correct and can I apply to have it reduced. The tax rate on his super is 15%.

      Anneke Van Aswegen |

      Hello Peter,
      I’m so sorry for your loss. Generally, benefit payments on life insurance policies held inside super are taxed at a rate of up to 16.5% when paid to non-financial dependents, like yourself. I am unaware of whether or not you can reduce this tax rate.

      Because we are not tax professionals, I suggest you request the assistance of an accountant or tax consultant to help you with this query.

      Best of luck.

  • David |

    Hi, my wife and I are Australian citizens currently living abroad. I have a life insurance policy with an Australian company that has a terminal illness clause. If I were to apply for the funds via this clause would the funds be tax free. Thanks

      Anneke Van Aswegen |

      Hello David.
      Generally, a life insurance company will pay your benefit when you’re diagnosed with a terminal illness from which you are not expected to live for more than 12 or 24 months, depending on the insurer. A medical specialist will usually need to confirm the diagnosis and your insurer must be in agreement of said diagnosis. Please read our article about lodging an insurance claim.

      If your life insurance policy is held outside superannuation, the lump sum payout will usually be tax-free.

  • Kieran Cassidy |

    Hope you can help. I have a life insurance policy which I no longer require because I have other sources of money which will benefit my wife or dependants upon my death.

    Therefore I want to cash it in for its surrender value. If I do this, what percentage of the payout figure am I likely to lose in tax?

      Anneke Van Aswegen |

      Hello Kieran,
      ComparingExpert and consultants are not registered tax professionals. Please consult your accountant or a tax specialist to ensure you receive the correct information. Take note; in Australia, whole life insurance policies which generally have an investment component has not been available since 1991. Thus if you have a term life insurance policy with an Australian company, there is no investment component with a surrender or cash value.

  • hal |

    If I cash-out a policy, is it taxed?

      Anneke Van Aswegen |

      Hi Hal,

      Please consult a tax professional or your accountant as ComparingExpert are not registered tax specialists. I’m not sure when you purchased your policy, but in Australia, only term life insurance policies are available, for which there is no surrender value. Meaning, you can’t cash-out a term life insurance policy.

  • Danny |

    My mom got citizenship last year.

    She nominated me as her beneficiary to receive her life insurance should she passway. But we’re not sure whether the money will get paid to me, as I am not an Australian citizen or permanent resident of Australia. I am a citizen of another country.

    Thanks for your help

      Anneke Van Aswegen |

      Hello Danny,
      Generally, if you’re nominated as your mother’s beneficiary, the lump sum should be paid to you regardless of whether you’re an Australian citizen or not. However, it’s always best to contact the insurer directly and confirm this.

  • Scott Curtis |

    I’m being paid out insurance from a policy I took out in 1992. The policy was paid by contributions to super. Payment is 100k. $11000 in super and $89000 in insurance. I’ve been paid $600000 insurance and $60000 super already and was tax free. Is the latest claim same.
    Cheers Scott

      Anneke Van Aswegen |

      Hi Scott,
      It would be best for you to check with your accountant or a tax specialist as ComparingExpert and consultants are not tax professionals.
      All the best.

  • David Kentwell |

    My wife & I received $70 000 life insurance plus $13 000 superannuation after our 23 year old daughter passed away. How much tax will have to be paid?

      Anneke Van Aswegen |

      Hi David. My condolences to you and your wife.

      ComparingExpert and consultants are not tax specialists. It’s best to seek to advise from your accountant or a tax professional regarding your question.

      Best of luck.