What is the tax status of death benefits payable to a beneficiary under a life insurance policy?

Death benefits payable to a beneficiary under a life insurance policy are generally not subject to income taxation by the federal government. This means that when the insured individual passes away and the designated beneficiary receives the death benefit, that amount is received free from federal income taxes.

This tax treatment is rooted in the principles of the Internal Revenue Code, which states that the proceeds from a life insurance policy, when paid out as a death benefit, are excluded from the beneficiary's gross income. This exemption is designed to provide financial relief to the beneficiaries during a time of loss, ensuring that the funds intended for their benefit are not diminished by tax liabilities.

The other options reflect different misconceptions about the treatment of life insurance death benefits. While state tax laws may vary, most states follow the federal guidelines, leading to the understanding that these benefits are primarily shielded from taxation at the federal level.