Dividends Earned

Dividends earned on life insurance policies are never considered taxable income. Dividends are deemed a return on the premiums paid for the insurance.

Death Benefits

Death benefits paid to beneficiary upon the death of the insured are not taxable income.

Invested Benefits

When the amount received by the beneficiary upon the death of the insured is left with the insurance company for investing, the interest earned on the amount invested will incur income tax liabilities.

Policy Surrender

A life insurance policy that is surrendered or given up in exchange for the cash value of the policy is partially taxable. The total premiums paid into the policy and dividends earned will be subtracted from the amount received. The remainder amount will be taxed at the ordinary income rate.

Cash Values

Cash values received on a whole life policy are partially taxable. The premiums paid and dividends earned are subtracted from the amount received to determine the taxable portion. The taxable amount is taxed as ordinary income.

Policy Loans

Policy loans are not considered taxable income. If the policy is surrendered, the amount of the policy loan that was derived from the interest earned on the policy will be subject to income tax.

Source:

World Wide Web Tax

Life Insurance and Income Tax