Will I have to pay tax on my life insurance claim?

Life insurance is all about providing that financial cushion for you and your loved ones during the toughest times, but there’s a big question: will you or your beneficiaries need to pay tax on those life insurance payouts? It’s an important aspect of financial planning. If you pass away or can’t work, your benefit payment could be a lifeline. Whether your benefit will be taxed varies depending on the insurance type and circumstances. Let’s break it down. 

Life insurance 

Life insurance, also known as death cover, pays a lump sum if you pass away or are diagnosed with a terminal illness. In Australia, these payouts are generally tax-free when the policy is held outside of superannuation. If it’s held inside your super, they are often tax-free when paid to financial dependents like a spouse or child under 18 years but can be taxable for non-dependents. It’s crucial to read your policy’s Product Disclosure Statement (PDS) to understand when your beneficiaries will be taxed for a payout. 

Critical illness or trauma insurance 

Critical illness insurance, also known as trauma cover, pays a lump sum if you’re diagnosed with one of the specified illnesses listed in your policy. In Australia, the benefit from a critical illness policy is typically paid out tax-free, depending on the type of policy you hold. This can be a huge relief when you’re dealing with health challenges. 

Total and permanent disability insurance (TPD)? 

Total and permanent disability insurance (TPD) pays a lump sum if you become totally and permanently disabled and can’t work again. The tax treatment of TPD benefits in Australia depends on the structure of the policy. If your policy is held outside of super, the benefit is generally received tax-free. However, if it’s within super and the benefit is accessed before you reach a condition of release (like retirement age), the payout might be subject to tax. 

Income protection insurance 

Income protection insurance replaces up to 70% of your income if you’re unable to work temporarily due to illness or injury. In Australia, income protection benefit payments are generally considered taxable income and may need to be included in your tax return. However, the premiums you pay for income protection insurance held outside super are generally tax-deductible, which can help offset the tax payable on any benefits received. Premiums paid for income protection insurance held within super are not tax-deductible to you. 

Is funeral insurance payout taxable? 

Funeral insurance pays your beneficiaries a lump sum to cover funeral costs, and this is generally tax-free. It’s one less thing to worry about during a difficult time. 

Get advice tailored to your situation 

Tax laws and personal circumstances vary. Have a chat with your financial adviser who can help you understand how and if your benefits will be taxed and customise a policy that provides sufficient financial support for you and your loved ones.