Life Insurance Proceeds: Name your Heirs or the Government Shares!

June 3rd, 2013

Do you have a life insurance policy without a specified beneficiary (other than your estate)?  Are you leaving your estate (residuary estate) to individuals other than a spouse or child?

Many people assume life insurance proceeds, regardless of who the beneficiary is, are exempt from NJ Inheritance tax.  Therefore, even if they are leaving their estate to a beneficiary who is not a spouse or child, they see no need to designate a beneficiary for the life insurance policy.  However, life insurance left to an estate where the ultimate beneficiary is not a spouse or child is not exempt from NJ Inheritance tax.  As NJ Inheritance taxes can be as high as 16%,  it is prudent to take the simple step of naming a beneficiary to avoid the NJ Inheritance Tax. 

Unfortunately life insurance policies owned by individuals are includable for NJ Estate tax purposes, regardless of who is named as the beneficiary, if the assets of the estate are at least $675,000 (not an uncommon scenario for an insured decedent).  However, unless you cherish Chris Christie more than your loved ones, you can at least avoid paying NJ Inheritance taxes by simply naming an individual as beneficiary on your life insurance policy.     

Let’s illustrate:                                                              

Example #1: Uncle Harry dies and names his nephew in his will as sole heir of his entire estate. His only asset is a $500,000 life insurance policy. Since his estate is less than $675,000 there is no US or NJ Estate tax. If he named his nephew as beneficiary of his life insurance policy, there is no NJ Inheritance tax as well. However, if there is no named beneficiary (the estate is the beneficiary), the $500,000 is subject to a 15% inheritance tax, or $75,000.

Example #2: Same as above, except the policy is $1,000,000. NJ law states that the estate calculates the estate tax and the inheritance tax and pays the greater of the two, not both. The NJ Estate tax on $1,000,000 is $33,000. If Uncle Harry named his nephew as beneficiary, the inheritance tax is zero and the estate pays $33,200. If Uncle Harry did not name his nephew as beneficiary, the inheritance tax is 15-16% of $1,000,000 or $153,000. The Estate pays $153,000. The cost of not naming a beneficiary is $119,800 ($153,000 less $33,200).


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