Milo named his wife, Khia, the beneficiary of a $100,000 insurance policy on his life. The policy provided that, upon his death, the proceeds would be paid at a rate of $4,000 per year plus interest over a 25-year period. Milo died June 25 of last year, and in the current year, Khia received a payment of $5,200 from the insurance company. What amount should she include in her gross income for the current year? a. $200 b. $1,200 c. $5,200 d. $4,000 c. $11,500; the award from her job is excluded. d. $11,600; the plaque may be excluded.
The Correct Answer and Explanation is:
The correct answer is b. $1,200.
Here’s the breakdown of the situation:
Milo named his wife, Khia, the beneficiary of a $100,000 life insurance policy. The insurance policy stipulates that upon his death, Khia would receive $4,000 per year plus interest, over a period of 25 years. When Milo passed away on June 25 of last year, Khia would begin receiving annual payments according to this structure.
In the current year, Khia received a total payment of $5,200. Of this, $4,000 is a tax-free return of principal (the amount she is entitled to receive annually as specified in the policy), which is not included in her gross income. However, the remaining $1,200 represents the interest on the life insurance proceeds, which is taxable and must be included in her gross income.
In summary:
- The $4,000 is the principal portion of the annual payment and is not taxable.
- The $1,200 is the interest portion, which is taxable and must be included in Khia’s gross income for the year.
Therefore, the amount Khia should include in her gross income for the current year is $1,200.
