If you pass away with an active life insurance policy, your beneficiaries (such as surviving family members) receive a tax-free cash payout from your insurance company. This payout is not considered part of your income or your beneficiaries’ incomes and is not taxed as such when you pass. This is because you paid your life insurance premiums using funds on which you paid income tax as well.
The insurance provider ensures that payouts go directly to your beneficiaries. The payout bypasses your estate and the probate process. As a result, if you have outstanding debts at your death, creditors can’t access this death benefit unless the payout goes to your estate.