At 68 With $750,000, She’ll Get a Terminal Diagnosis. Her Life Insurance Can Pay Part of the Death Benefit Now, Tax-Free

She’s 68, and the doctor’s news has changed everything. What she wants now is simple: she would like to spend the time she has well, maybe a trip with the grandkids or better care at home, without draining the $750,000 she’s saved for her family.

She also has a life insurance policy with a feature many people forget about. It’s called an accelerated death benefit, and it lets her take part of the policy’s payout while she’s still alive. If she qualifies as terminally ill, that money generally comes to her tax-free. This is a choice many families end up facing, and what she decides in the next few weeks determines what her family gets later.

How the IRS Defines Terminally Ill

Under federal tax law, a terminally ill person is someone a physician has certified as having an illness or condition that can reasonably be expected to result in death in 24 months or less after the date of certification (26 U.S.C. § 101(g)(4)(A)). When that’s true, the IRS says accelerated death benefits are fully excludable from income. In plain words, she won’t owe federal income tax on them.

The rules for chronic illness are tighter. That category covers someone who can’t do at least two activities of daily living, like bathing or dressing, for 90 days or more, or who needs close supervision because of severe memory loss. Benefits paid per day are tax-free only up to a cap of $420 a day for 2025. Her terminal certification puts her in the more generous group.

Every Dollar She Takes Early Shrinks Her Family’s Check

Think of the accelerated benefit as an advance on money her beneficiaries would otherwise get. Whatever she takes lowers the payout they receive after she’s gone. Some policies also charge a fee or apply a discount, so her family can lose more than she actually receives.

There’s one more catch. A payout can affect Medicaid and SSI eligibility, since those programs look at what you have in the bank. With $750,000 saved, she probably isn’t counting on them. It matters if she was planning for Medicaid to cover nursing home care down the road.

Selling or Borrowing Leaves Heirs With Less

Selling the policy to an investor, which we covered in our recent look at life settlements, ends her family’s claim completely. The buyer collects the death benefit. Because she’s terminally ill, a sale to a licensed viatical settlement provider is also treated as tax-free (26 U.S.C. § 101(g)(2)), per federal law. Her heirs still get nothing from the policy.

Borrowing against the policy’s cash value keeps the coverage in place. Interest continues to accrue, though, and any unpaid balance comes out of the death benefit. The gap her family covers can grow every month. The accelerated benefit usually lands in the middle. She gets cash now, and her beneficiaries keep whatever’s left.

Why Savings Should Usually Go First

With $750,000 saved, most people are better off spending ordinary savings first and keeping the accelerated benefit in reserve. The fee or discount is the reason. A dollar spent from a savings account costs her family exactly a dollar. A dollar pulled early from the policy can cost them more than that, and the death benefit they’d receive later is generally tax-free to them anyway.

Switch that order if most of her savings are in a pretax IRA. Money taken out of an IRA is generally included in gross income, so it’s taxed like a paycheck. A large withdrawal to pay for in-home care or a final family trip could push her into a higher tax bracket. In that case, tax-free money from the policy can be the cheaper option, even after fees.

Medical bills are a good test, as a hospital stay alone has a Medicare Part A deductible of $1,736 in 2026. Small costs like that belong in her checking account. Larger, one-time expenses are where the policy may earn its place.

Two Conversations That Can’t Wait

First, she should check who’s named on the policy and on every retirement account. Those forms decide who gets paid, and they can override a will. We’ve reported on a 401(k) that went to an ex-husband because nobody updated the paperwork after a divorce and remarriage (we put the full beneficiary and titling checklist in a free estate guide if it helps).

Second, she should talk with her family. If she takes part of the benefit early, the people expecting that money deserve to know why. A smaller check later shouldn’t come as a surprise during grief, and an open talk now often brings relief on both sides.

One Phone Call Settles the Biggest Question

Before she touches savings or signs anything, she should call her insurance company and ask two things. Does the policy include an accelerated death benefit? And what does it cost to use it, in fees or discounts, and how much can she take?

She should get those answers in writing. With that number in hand, she can compare it with her savings and decide which dollar to spend first. The costly mistake is borrowing against the policy or selling it before she knows what the accelerated benefit would cost, because both moves leave her family with less.

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