The Definition of Life Insurance for Estate Tax Purposes

Life insurance is a very broadly defined term for estate tax purposes. In its simplest definition, it is a contract under which the insurer agrees to pay a specified death benefit to a specified beneficiary at the death of the insured. The term encompasses life insurance of every description, as long as there is both: (a) risk shifting; and (b) risk sharing in the event of the policyowner’s loss through the insured’s death.

So accidental death benefits under a health insurance policy, payments under a fraternal society’s lodge system, accidental death payments, group insurance, paid up additions, or other payments under a policy rider at the insured’s death would all be considered life insurance for purposes of federal estate tax inclusion.

The element of risk must be present at the time of the insured’s death for the proceeds of the contract to be includable as life insurance in the insured’s gross estate. Furthermore, to be considered life insurance for estate tax purposes, the death benefit must:

  1. be payable unconditionally; and
  2. have no effect on other legal liabilities or rights in connection with the insured’s death.

The issue arises most often in accident situations with respect to payments under automobile or air travel policies. For example, suppose a contract between an insurance company and the owner of an airplane provided that a specified payment would be made to the estate of any individual killed in an accident while flying in the owner’s plane. If the contract further required that the passenger’s estate would have to sign a release of all claims for damages against the owner or his estate in order to collect, that condition would affect other rights of the deceased. The contract would therefore not be considered life insurance.

Where there is no element of risk, the payment is not (at least for estate tax purposes) considered life insurance. It may, however, be subject to inclusion in the gross estate under one or more tax law provisions (for example, as an annuity).

Reproduced with permission.  Copyright The National Underwriter Co. Division of ALM

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