Do we have to pay taxes on my Dad's cashed out life insurance policies?

Asked by

They will be used to pay the nursing home. We are filing for medicaid for my dad. he is in a nursing home, that is why we have to cash out his policies. they are worth about $40,000 dollars. we will have to use all the money to pay for nursing home should we have taxes taken out ot not. this is so confusing.

Answers 1 to 9 of 9
Expert Answer
3931 helpful answers
I would think that in most cases you won't since the money will go into nursing home payments but it's best to do what is mentioned. 1. Ask a CPA who prepares taxes about what your obligation is. 2. Check with Medicaid and see what they say. Hopefully, both sources will agree.
Take care,
Expert Answer
147 helpful answers
In your question, you say: "We are filing for medicaid for my dad. he is in a nursing home" and "we will have to use all the money to pay for nursing home."

You may be able to set aside all of the insurance policy cash in a pooled trust account for your father. Talk with an elder law attorney in your state, who can assist you with the Medicaid application, and help you protect your father's quality of life.

Funds deposited in a pooled trust account (also known as (d)(4)(C) trusts) can be used for any suitable purpose that assists the account beneficiary. Hiring an accountant to take care of tax filings and all of your questions would benefit your father. An accountant can be paid from the funds that you set aside in the pooled trust.

More important, the trust funds can be used to supplement care that staff in the nursing home are not able to provide.
I will pretty much "ditto" guestshopadmin's answer. We had to cash out a whole life policy (which is probably what your Dad had or a universal/variable life policy...some kind of cash value policy) for my Mother as her care expenses have exceeded her available income. As this money (at least for my mother) represented a significant inflow of cash for the year, we are going to have a CPA do her taxes this year. Like you, we are headed towards the application for Medicaid eventually and we want to have all our financial ducks in a row. One other side thought, when we went to her insurance agent (I am POA) to cash out the policy, he was VERY reluctant for us to cash out and kept trying to persuade me to take out a loan on the policy (which you can do) and thereby keep the death benefit. I tried to explain and explain to him that this was about paying for care and also about appropriate asset reduction/allocation in the face of a long term care residency for which she didn't have the money. I was utterly AMAZED at how little the "life insurance agent with 35 years experience from a national company" actually knew about Medicare/Elder finances. Absolutely double double check with your financial advisors and your tax people with any questions for official answers. I was just surprised at the whole "take out a loan on a cash policy" route he wanted us to take (to keep her policy on the books no doubt) and how he didn't get that in our state, you have to spend down to 2,000 in assets to be eligible for Medicaid. Amazing!
Best wishes/Good luck/Stay strong
Talk to a tax preparer or CPA. depending on the type of policy and how much he paid in part may be taxable. However you need someone to look at the entire picture of finances to be sure.
You should receive from the insurance company a 1099-R which will show the gross amount they are sending and it should also show which part (if any) is taxable.

If the total premiums he has paid to the company for these policies over the years are greater than the cash value, then no tax will be due.

Ntsujimura - ah the tales of dealing with insurance agents.....what I have found in that most out there selling investment products or are touting themselves as financial advisors are insurance agents (and not a true broker with a series 7 license). As insurance agents, they usually are selling prepackaged products most often heavy on commission structure for the lifetime of the product. That "advisor" needs to hold onto the policy or its proceeds to keep their commission and if not there are hefty settlement fees. Annuities are a good example of this. If there is a consumer complaint, it goes to your state dept of insurance & its insurance commissioner.....which seem to roll over to whatever the insurance companies want. I'm pretty jaded on insurance commissioners as of the last 4 in my state (LA), 3 have gone to the pokey..... A good example on all this is how wind coverage has been done in coastal states & to a lesser extent the LTC policies huge coverage increases (genworth). Its the old school / brokerages who come under FINRA for dealing with consumer complaints and FINRA takes these pretty seriously. For me, a financial advisor subject to FINRA is the way to go. The wirehouses also are required to have a compliance officer for their area or region, who takes consumer compliments pretty seriously and independently of the broker or their branch manager.

For funeral & burial pre-need polices complaint for Medicaid, it seems each state places a maximum on what is allowed for this ($ 8 -10k) and it has to be NCV (no cash value). No matter what, there will be costs that fall outside of the pre-need as some things are not within the funeral homes control. My moms was done in the 1980's and back then police patrol from church to cemetrary was done as a courtesy & free, now it's a minimum of $ 500.
#1You may have to pay taxes as that is reportable income. #2 Who received the funds? #3 When did mom file for Medicaid? #4 When Mom is on Medicaid, she is allowed to own $2, 000 only in assests. #5 Why are you private paying if mom is applying for Medicaid?

You will probably not have to pay any taxes at all on the cash value of the life insurance policy. In most cases, when someone cashes out their life insurance, the total sum of premiums paid is greater than the cash value. The only time you have to pay tax is if the cash value is greater than the total sum of premiums paid.

But even if you have to pay a tax it would be minimal.

For example, if the cash value is $40,000 and the total sum of premiums paid over the years is $35,000, then only $5,000 would be taxable.

I just remembered one more thought! (Can you tell I read my emails early in the morning before the first cup of coffee has hit!!!) A burial policy is (and again, check with your state Medicaid representative) not considered a cash value policy because the benefactor is the specific funeral home or service. In our state, a paid burial policy is not considered an asset. Also, as you look at asset reduction, you can pre-pay for funeral expenses from a loved ones existing assets. I know this is less than pleasant talk, but get as much information as you can to help make good decisions for your Dad. This journey certainly isn't for the faint of heart so stay strong!!!

Share your answer

Please enter your Answer

Ask a Question

Reach thousands of elder care experts and family caregivers
Get answers in 10 minutes or less
Receive personalized caregiving advice and support