All business owners know a penny saved is a penny earned.
One way to reduce your business expenses (and increase your income) is by claiming eligible tax deductions. Common tax write-offs include:
- Business start-up costs
- Office expenses
- Meals, entertainment, and more
But what about life insurance premiums? Can you write them off on your taxes, too?
Like many questions related to income tax: it depends. Here is what you need to know.
Can my business claim life insurance as a business expense?
As a business owner, you can choose to provide group insurance as part of your employees' compensation. This can include health, dental, and group term life insurance.
If you offer group life insurance, you can claim the premiums as a deductible business expense. To do so, you must meet the following criteria:
- Your business must be incorporated
- Those covered under the group plan must be either corporate officers or employees.
- The beneficiary of the group plan must not be the company.
- Only the first $50,000 of coverage is tax deductible. Anything beyond that is not deductible.
Freelancers and self-employed workers cannot write off life insurance premiums as a tax-deductible expense.
What happens if you claim life insurance as a business expense?
If you claim life insurance premiums as a business expense, the life insurance payout will become taxable. In other words, the beneficiary of the policy (your employees or their family members) pay taxes on their employee benefits. By writing off life insurance as a deductible expense, your employees will be taxed on their life insurance payout if they pass away.
The insured is likely to believe that their policy's beneficiary will receive the face value because that is what usually happens. However, in her situation, the death benefit will be taxed. Consider that a reduced payout may even preclude the policy from serving the objective for which the insured originally signed up.
Which insurance premiums are tax deductible and which are not?
Individual Life Insurance
For Individuals: Premiums for an individual life insurance policy are generally not tax deductible. However, if you are using the life insurance policy as collateral for a loan, you may be eligible for a tax deduction. It would be best to consult a tax professional in this case.
For Businesses: Premiums are not deductible for tax purposes. However, if the corporation is using the policy as collateral for a business loan, they may be eligible for a tax break. Again, in this case, seek the advice of a tax specialist.
Life Insurance Used for Donating Money to a Charity
For Individuals: Your premiums are not deductible on your tax return. However, if the charity organization owns the policy, you may be eligible for a tax credit, reducing the amount of tax you owe.
For Businesses: If the nonprofit organization owns the life insurance coverage, the premiums are tax deductible. However, before implementing this technique, we recommend that you seek tax counsel from a trained practitioner.
Life Insurance with the Employee as the Policy Owner but Premiums Paid by the Employer
For Individuals: Premiums are taxable. This is because you are paying for premiums of a personal bank account, not a business-related bank account.
For Businesses: Premiums are tax-deductible, provided they fall under the category of reasonable business expenses.
Key Person Insurance
For Individuals: Individuals are unable to obtain key person insurance. That is something that a firm purchases to protect itself from financial loss if a key employee is unable to work due to illness or death.
For Businesses: Key person insurance premiums are not tax deductible if the business is the beneficiary.
Can you write off life insurance premiums as a business expense if you are self-employed?
Self-employed workers and freelancers cannot claim life insurance premiums as a business expense. They are treated the same way as individuals buying life insurance.
Are premiums paid for key man insurance tax deductible?
Key man insurance is a type of life insurance and/or critical illness coverage that a company provides to its most significant employees. It protects the company against the financial consequences of losing a valuable employee.
A key person insurance policy typically benefits the firm. Because the firm will get the death benefit, the premiums can be deducted from its taxes. The death benefit is deductible, but not the premiums. Because the premiums are paid with after-tax cash, the firm will not be taxed on the life insurance payout.
However, there are two situations in which the premiums for key man insurance are tax deductible:
- A lender requires the policy as a collateral.
- The cost of the insurance policy is part of the employee’s taxable income.
The ability to claim life insurance as a taxable business expense is determined by who will benefit from the policy. If your company is the direct recipient, you can deduct the premiums from your taxes. In contrast, self-employed and freelance business operators are subject to the same rules as individuals. That implies they can't deduct their life insurance premiums from their taxes.
Frequently Asked Questions
What will happen if life insurance premiums are deducted as a business expense?
If the premiums are not deductible and you claim them as a business expense, the beneficiary of the policy will have to bear the consequences. The promised benefits will be taxable in this situation, which means the recipient will receive less money than intended.
Is the life insurance payout tax-free for individual policies?
Proceeds to individual life insurance policies are normally tax-free. This is due to the fact that the premiums are paid with after-tax cash. However, in some cases, the death benefit is taxed.
While the payout is mostly tax-free, any interest made on it is not. Beneficiaries almost always choose to receive the death benefit as a lump payment, thus no tax is due. However, you have the option of receiving the insurance money and collected interest in installments. In this instance, any interest income you earn will be taxable.