How Are Life Insurance Proceeds Taxed At Death? 
Life insurance proceeds are exempt from income tax . If there is a part of the life insurance policy that is income earned beyond the death benefit -LRB- such as dividends or interest -RRB- , that will usually be taxable . Also , if the policy is a MEC -LRB- modified endowment contract -RRB- , income tax would be paid . If the proceeds are large enough to warrant estate taxes , federal estate taxed may need to be paid , depending on how the policy was set up . 