Question

How are death benefits from a life insurance policy, in which the decedent held incidents of ownership, regarded for tax purposes?

a. Not subject to federal income tax.
b. Not subject to federal estate tax.
c. Subject to both federal income and estate tax.
d. Not subject to either the federal income or estate tax.

Answer 1

Life insurance death benefits are not subject to federal income tax but might be subject to federal estate tax if the decedent held ownership incidents in the policy. Estate tax only affects large estates surpassing a high value exemption threshold.

Step-by-step explanation:

Death benefits from a life insurance policy, in which the decedent held incidents of ownership, are not subject to federal income tax, but they are potentially subject to federal estate tax.

This is because the Internal Revenue Code generally excludes death benefits of life insurance from taxable income when paid to a beneficiary; however, the value of the life insurance policy can be included in the decedent's estate for estate tax purposes if the decedent had incidents of ownership in the policy. The estate tax only applies to estates exceeding a certain value threshold, which in recent years has been set in the millions of dollars, affecting only a small percentage of high-value estates.