Tax treatment of insurance benefits depends on the nature of the benefit which is accepted and paid. It also depends on how the relevant benefit is held or owned. For example, the tax treatment of a TPD benefit which is paid on a policy of insurance held in super, is different to that paid on a benefit which is not held in super. This article will discuss the taxation treatment of income protection, TPD, trauma and terminal illness insurance benefits.
Tax on income protection payouts
As its name suggests, income protection or salary continuance benefits protect the income that you earn each month if you get sick or injured and cannot work or cannot work in the same capacity. They are benefits which are usually paid on a monthly basis, provided you continue to be unable to work due to illness and provide medical evidence to confirm. You can learn about this type of benefit, in our blog “What is income protection and how do income protection claims work?”
Because they are benefits which provide you with a replacement income, they are usually taxed as income. Usually, the insurance company or superannuation fund that pays the benefit will withhold the tax payable (and pay to the ATO on your behalf), however not always.
Therefore, you need to be careful to make sure the tax is being withheld from the benefits and you are issued with a PAYG statement at the end of the financial year. Otherwise, you could end up with a nasty tax bill.
Tax on TPD payouts (total and permanent disability claims)
TPD benefits are a lump sum payment which are paid to you if you’re sick and permanently unable to work again within your education, training or experience (the benefit definition varies from policy to policy). You can learn more about this type of benefits, in our blog, “What is a TPD claim?”
The tax treatment of a TPD benefit varies depending on whether the benefit is paid to you from a policy held on your behalf by a superannuation fund or if it is held by you directly.
TPD insurance in super
TPD benefits which are held in super are generally paid into your superannuation account. Once they are in the account, they usually form part of your superannuation account balance and any withdrawal will be taxed as if it is a superannuation withdrawal.
Therefore, if you are over your preservation age (usually 60 years old) and not working, you will not pay any tax on the TPD benefit which is paid to you from your super account.
However, if you are under 60 years of age, you will need to apply to withdraw the super money on the grounds of permanent incapacity (or potentially terminal illness). Your withdrawal will be taxed, but you will usually get a discount due to your disability and work incapacity, provided that you give the super fund documents to the satisfaction of the tax department to prove that you are permanently incapacitated (usually medical statements completed by two different doctors are sufficient).
TPD insurance outside super
These benefits are not considered income and usually are not taxed as either income or a superannuation withdrawal. That is, they are usually paid tax-free.
Tax on trauma insurance payouts
Trauma benefits are lump-sum payments paid to you under a policy of insurance if you are diagnosed with a listed illness (for example Parkinson’s disease, multiple sclerosis, prostate cancer etc) and otherwise satisfy the policy requirements to be paid a benefit.
These benefits are usually not held in super and they are usually not considered to be income. Therefore, you do not normally pay any tax on these lump sum benefits.
Tax on terminal illness payouts
Terminal illness benefits are usually the early payment of the death insurance benefit which are payable to you if you become terminally ill, as defined. Terminally ill usually means that you are diagnosed with less than 24 or 12 months to live.
If a terminal illness benefit is held in super, it will be paid into your super account (as with the TPD benefit) and form part of your superannuation account balance. However, unlike with a TPD claim, early access to superannuation on the grounds of terminal illness does not normally attract any taxation.
If the relevant death insurance policy is held outside super, it will be paid to you directly and there is not usually any tax to be paid.
We are insurance experts but we are not tax experts. So, the above is designed to be general advice and a guide only. If you require more detailed taxation advice on the tax payable on your insurance benefits or any entitlement to tax deductions on premiums for your injury insurance policies, we recommend that you speak to your accountant or financial advisor or get in touch and we will refer you to the best place to get some tailored advice.
If you require advice or assistance in relation to your rights and entitlements to any of the above insurance benefits (including rejected claims), get in touch for free advice. It costs you nothing to find out where you stand.
Melbourne: 03 9448 8048
Brisbane: 07 3013 4300
Anywhere else in Australia: 03 9448 8048
How we charge
We are Australia's best value superannuation/insurance law firm. Other law firms charge nearly double (& sometimes more than double) what we charge. So, if you get a quote from them, or have a cost agreement, ask us what we will charge you.