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Can Life Insurance Proceeds Push My Estate Over the Estate Tax Limit?

– Estate tax saving tips –

Life insurance is a valuable tool in estate planning, either to provide for our loved ones directly, or to provide liquidity to an estate so that homes and businesses can remain within a family, instead of being sold so the proceeds can be distributed.

One question that arises when life insurance is used for estate planning is whether the proceeds will wind up being taxable.

“With proper planning, life insurance proceeds will not be includable in your estate for estate tax purposes, and the distributions to your beneficiaries will also be tax free for them as well.”

However, there are several ways that life insurance proceeds can become taxable.

  • One way is if you make the common mistake of not updating your life insurance beneficiaries with your carrier, or if you name your estate as beneficiary of your life insurance policy.
  • The second way is if you personally own the insurance policy that insures your life. If you own the policy that insures you, and the beneficiary of the policy is not your spouse, then the proceeds will be includable in your gross estate.

Review/Update Ownership of the Policy

These issues can easily be avoided with proper planning. Gifting the ownership of the policy to a beneficiary, or using an irrevocable life insurance trust, combined with making sure your beneficiary designations are kept up to date, will ensure that the proceeds of your life insurance go where they are intended, and that they are not diminished by excessive taxation.

Stay Aware of Changes in Estate Tax Exemption Amounts

For 2021, the federal estate tax exclusion is $11.7 million dollars, meaning that a single person can transfer that much to their friends and family through lifetime gifting and through their estate without being subject to federal estate tax. A married couple, if the proper elections and planning are done, can transfer $23.4 million dollars without being subject to federal estate tax.

The New York State estate tax exception in 2021 is set at $5.93 million, and does not have the same election for married couples that the federal rules have. With proper planning, however, the New York State estate tax can be avoided completely.

It is important to note that these exemption rates are subject to change. For example, in the tax plan proposed by President-elect Biden, the federal estate tax exemption would be reduced from $11.7 million to $3.5 million, and the estate tax rate will also be raised. Under the current proposals, transactions made before any new tax legislation goes into effect will not be subject to claw-back, so there is still time to plan for these potential changes. If you think you may be affected if and when the law changes, if may be valuable to plan now to take advantage of the current high exemption amount.

Call our office to schedule an appointment today. If you or your parent(s) are over age 65 and in need of a will, you may be eligible for a free consultation:
Staten Island: 718-390-0555
Manhattan: 212-349-1200