• Make sure you understand the tax implications of both 401(k) plans and insurance.tax forms image by Chad McDermott from Fotolia.com
  
  401(k) plans and life insurance are two different financial products. However, they both have tax advantages that are not found in other financial products. While 401(k) plans are government-created tax shelters, life insurance is a private contract. Before you put money into either one, however, you should understand what taxes do not apply to these products.
  
  

Income Tax

• Life insurance is generally exempt from income taxation. Additionally, the cash values and death benefits of the policy do not need to be reported on your tax returns and are not included in your gross income. Traditional 401(k) plans are exempt from current income taxation. This means that as long as the money is inside of the 401(k) plan, the money is exempt from income taxation. Roth 401(k) plans are exempt from future taxation. This means contributions to the Roth are after- tax, but the interest earnings are income tax free.
  
  

Capital Gains Tax

• Life insurance and 401(k) plans are both generally exempt from capital gains tax. Life insurance will only be subject to capital gains tax when it is sold to a viatical settlement company and a gain is realized in the policy. However, barring that, life insurance is not subject to capital gains tax.
  
  

Estate Tax

• If life insurance is part of a life insurance trust, it is exempt from the federal estate tax, and may be exempt from individual state inheritance taxes.