Massachusetts Life Producer Practice Exam

If a life insurance company pays a $100,000 death benefit and the insured's cash value was $15,000, how much is added to the beneficiary's gross income for federal tax purposes?

1. $100,000

2. $15,000

3. Nothing

4. $10,000

The correct answer is: Nothing

When a life insurance company pays out a death benefit, generally, the proceeds are received by the beneficiary tax-free under federal law. Therefore, the entire $100,000 death benefit in this scenario does not become part of the beneficiary's gross income for federal tax purposes. The cash value of the policy, which is $15,000 in this case, is not taxable upon the death of the insured when the death benefit is paid out. This is because the death benefit represents an amount that is specifically excluded from income. The key aspect here is that the payout occurs upon the death of the insured; the beneficiary receives the full benefit without being subject to income tax. Other amounts or scenarios, such as withdrawals from the cash value while the policyholder is alive or when a policy is surrendered, can create tax implications. However, for death benefits, the federal tax law is straightforward in allowing these proceeds to be received tax-free, which is why the correct choice states that nothing is added to the beneficiary's gross income for tax purposes.