The Dos and Don’ts of Naming Life Insurance Beneficiaries
You buy life insurance not for yourself but to financially protect your loved ones. You hope to not die until you’re old and you’ve lived a full life, but preparing for the unexpected in life is always better than leaving your loved ones to pick up the pieces. Term life insurance can do just that.
You may think that assigning someone to be your life insurance beneficiary is a no-brainer, but choosing a beneficiary can be a little tricky. We’re here to help you avoid mistakes and to make sure your loved ones aren’t left with a mess.
10 Beneficiary Mistakes to Avoid When Buying Life Insurance
1) Choosing a Minor as a Beneficiary
If you are a parent with young children, know that life insurance companies will not pay your life insurance policy proceeds directly to your minor children. Instead of naming a minor child as a beneficiary, set up a trust that benefits the child and name the trust as the beneficiary of the policy. Or you can name a reliable adult who will act on behalf of the minor’s benefit.
» Learn more: Can a Minor Be a Beneficiary?
2) Giving Money Without Conditions
If you name your young adult children as beneficiaries without putting any conditions in place, problems could arise. For example, say a life insurance policy owner dies unexpectedly and leaves his 18-year-old son with millions in death benefit money. This situation might be very overwhelming for a son as he probably wouldn’t know what to do with it all. Setting up a trust that states how much money and when it should be given would be wise.
3) Believing a Will Trumps the Policy
Don’t think that updating your will is good enough. If your will and policy name different beneficiaries, the life insurance money will go to whomever is listed on the policy. A life insurance policy is a contract and supersedes a will.
If you rely completely on your will, then all that time you spent looking at life insurance quotes was largely wasted. Let your policy do the majority of the talking. Your will does not override the beneficiary listing on your life insurance policy.
4) Not Reviewing Your Policy
Our lives are not stagnant. Marriage, divorce, deaths, new babies, and other major life events will bring the need to change your policy beneficiaries and could lead to the need of a new life insurance policy altogether.
Review your life insurance policy after life events, or every other year or so. An awful mistake to make would be to forget to remove your ex-spouse as your beneficiary leaving your new spouse with nothing when you die.
Unless you want your adult children to squabble after your death, be sure to update your life insurance policy beneficiary designations as you have more children.
» Learn more: When Should You Review Your Life Insurance Policy?
5) Making a Dependent Ineligible for Government Benefits
If you have a lifelong dependent, such as a child with special needs, it would be wise not to list that individual as a beneficiary. Anyone who receives a gift or inheritance of more than $2,000 is disqualified for government benefits such as Supplement Security Income (SSI) and Medicaid. Instead, set up a special needs trust and name the trust as the beneficiary. Keep in mind that the main reason you’ve purchased life insurance is to make sure your loved ones are cared for once you’re gone. This unintentional mistake could be a costly one for beneficiaries who rely on government benefits.
6) Not Being Specific
Instead of simply saying you want “my children” to be the beneficiaries, list their names, Social Security numbers, and addresses. Your beneficiaries will get the payout much quicker because the insurance company will not have to search for them. Also be sure to specify how you want the payout divided. Does each beneficiary get the same amount? Or do different beneficiaries get different percentages?
7) Overlooking Your Spouse in a Community-Property State
If you choose to name someone other than your spouse as a beneficiary, some states require your spouse to sign a form waiving rights to the money. The community-property states are: Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin.
8) Falling Into a Tax-Trap
If your life insurance policy states three different people as the owner, the insured, and the beneficiary, then the death benefit could count as a taxable gift. For example, if a wife owns a life insurance policy on her husband and the adult daughter is the beneficiary, then technically the wife is gifting her daughter the policy proceeds if her husband dies. The person who makes the gift (in this case, the wife) will be subject to a tax if it exceeds federal limits. This situation could be remedied if the husband owned his own policy, naming his daughter as the beneficiary. However, if the couple lives in a community-property state, the wife would need to sign a waiver (as discussed earlier).
9) Naming Only a Primary Beneficiary
People often make the mistake of only naming their spouse as a beneficiary, but what happens if the spouse dies before them? Or what if the insured and beneficiary die at the same time? If no living beneficiary exists, the life insurance proceeds will go into the estate and is subject to probate (this situation is a court-controlled process of wrapping up a deceased person’s affairs and proving the identities of individuals entitled to the deceased’s property). Probate can be a very long process. Another complication to having no living beneficiaries would be creditors. Normally life insurance proceeds are protected from creditors, but if there are no living beneficiaries, then the proceeds can be open to creditor’s claims.
» Learn more: What Is a Life Insurance Contingent Beneficiary?
10) Keeping Quiet
Do not keep your life insurance policy a secret. Be sure to talk with your family and beneficiaries about the policy and where they can find it in the event of your death. The life insurance company is not going to automatically know when you die and immediately send your loved ones the policy money. The beneficiaries need to claim the benefit, but if they don’t know a policy exists, all of your planning to protect them will have been in vain.
» Learn more: Talking to Your Family About Your Life Insurance
The most important mistake to avoid? Don’t keep your life insurance policy a secret.
If you have any questions, we’re happy to help. Check out our Q&A page that is full of information you may have always been wondering about. If you are in the process of thinking about getting life insurance quotes, our instant online term insurance quoting tool lets you see prices anonymously. We do not ask for your contact information, so you do not have to worry about getting calls or emails from strangers.
» Compare: Term life insurance quotes
Watch the Life Insurance Policy Beneficiaries Video
Welcome to Quotacy’s Q&A Friday where we answer your life insurance questions. Quotacy is an online life insurance agency where you can get life insurance on your terms.
I’m Jeanna and I’m Natasha.
We’re mixing it up a bit today. Setting up your policy’s beneficiary is an important step in buying life insurance. And making sure they are set up properly is something Quotacy agents often help clients with.
So instead of answering a direct question today we’re going to focus on a topic we get many different questions about and that topic is beneficiary designation best practices or
Nine things not to do when choosing your life insurance policy beneficiaries.
Don’t name a minor child as your policy’s beneficiary
Number one: don’t name a minor child as your policy’s beneficiary.
Life insurance companies will not write a check worth thousands or millions of dollars to a minor child. If you name your child beneficiary to your policy and they are not yet legal adults when you die the court will appoint a property guardian to manage these funds until your child reaches legal age.
To avoid this situation, instead name a trusted adult to be the beneficiary. Someone who will use the life insurance proceeds for your child’s benefit.
Or create a living trust and name your children the beneficiaries of the trust and then name the trust the beneficiary of your life insurance policy. A trustee you appoint will then manage the funds if your children are minors. With a trust you can also specifically state how much money will be transferred to your beneficiaries and when.
Or you can designate your minor children as beneficiaries of your policy under the Uniform Transfers to Minor Act. Under UTMA a custodian manages the proceeds for the child but when the child legally becomes an adult the custodian must transfer the proceeds over.
Uniform Transfers to Minors Act
UTMA is a legal provision in many states that authorizes a custodian to hold assets on behalf of a minor until the child reaches the age of majority -typically either 18 or 21.
A trust may be a better option if you worry about your 18-year-old having hundreds of thousands of dollars transferred to them in one fell swoop.
Don’t update your will’s beneficiaries without updating your life insurance beneficiaries.
Number two: don’t update your will beneficiaries without updating your life insurance policy beneficiaries.
Not many people realize this but a life insurance policy trumps a will. If your will states “I want my life insurance death benefit to go to my sister” but your life insurance policy beneficiary lists your brother, your sister’s going to be left out. If your will and life insurance policy name different beneficiaries, the life insurance money will go to whoever stated on the policy.
Don’t accidentally disqualify a beneficiary from government benefits
Number three: don’t accidentally disqualify a beneficiary from government benefits.
This mistake can happen if you have dependents relying on government benefits such as Supplement Security Income or Medicaid. For example, if your adult daughter has special needs we don’t recommend naming her as your life insurance policy’s beneficiary.
Having any assets worth more than $2,000 would disqualify your special needs daughter from many federal and state assistance programs. Set up a special needs trust instead. Because the trustee has control over the funds in a special needs trust, and not your child, your child can still qualify for government assistance.
Don’t be vague
Number four: don’t be vague.
So, Jeanna, let’s say you want to name your five siblings as your life insurance policy’s beneficiaries. Don’t just write in “my siblings” on your paperwork. They’ll receive the death benefit checks much faster if you list their full names and contact information.
Also, if you want different siblings to get different amounts of money be sure to list the percentages. For example, maybe you would prefer your three siblings with children to get a little bit more money than the siblings that don’t have children.
Don’t overlook your spouse in a community property state
Number five: don’t overlook your spouse in a community-property state.
If you choose to name someone other than your spouse as a beneficiary, community-property states require your spouse to sign a form waiving rights to the money.
Community Property States
(as of 11/18)
- New Mexico
*Alaska is an opt-in community property state
Generally, as a policyowner, you have a lot of flexibility on who you can name as a beneficiary of your policy; however, if you live in a community-property state and income earned during the marriage is used to pay the premiums, then typically your spouse legally has rights to 50% of the death benefit even if you name someone else as the primary beneficiary.
Don’t fall into a tax trap
Number six: don’t fall into a tax trap.
If your life insurance policy states three different people as the owner, the insured, and the beneficiary, then the death benefit could count as a taxable gift. For example, if a wife owns a life insurance policy on her husband and the adult daughter is the beneficiary then according to the law, the wife is gifting her daughter the policy proceeds when her husband dies.
The person who makes the gift, in this case the wife, will be subject to a tax if it exceeds federal limits. In the insurance industry, this is known as the unholy trinity or the Goodman triangle.
But worry not. This situation is easily remedied. The husband could instead simply own the policy on himself and name the daughter the beneficiary.
Don’t forget to name a contingent beneficiary
Number seven: don’t forget to name a contingent beneficiary.
People often make the mistake of only naming their spouse as the beneficiary. But what happens if your spouse dies before you? Or what if you die at the same time? If no living beneficiary exists, the life insurance proceeds will go into the estate and is subject to probate where the courts decide who gets what. Probate can be a very long process.
Another complication to having no living beneficiaries would be creditors. Normally, life insurance proceeds are protected from creditors but if there are no living beneficiaries, then the proceeds can be open to creditor’s claims. So be sure to name a contingent, or back-up, beneficiary to receive the death benefit if the primary predeceases you or is otherwise unable to accept the money.
Don’t forget to occasionally review your policy beneficiaries and update your policy as needed
Number eight: don’t forget to occasionally review your policy beneficiaries and update as needed.
You will not believe how often this scenario occurs:
Boy meets girl.
Boy marries girl.
Boy buys life insurance and names the girl the beneficiary.
Boy and girl divorce.
Boy marries a new girl.
Boy dies, but never updates his life insurance policy.
Guess who gets the life insurance death benefit? The ex-spouse.
We recommend that you review your policy after every big event, such as marriage, divorce, new births, home purchases, grandchildren, etc.
Don’t keep your life insurance policy a secret
And finally number nine: don’t keep your life-insurance policy a secret.
Tell your beneficiaries that they are beneficiaries of your life insurance policy. If you die and your loved ones had no idea you had life insurance then it was all a waste. Life insurance companies have millions of clients. They don’t know when one of them dies unless they’re sent a death claim. Be sure to talk with your family and beneficiaries about the policy and where they can find it in the event of your death.
» Compare: Term life insurance quotes
Thanks for watching. If you have any questions about life insurance, make sure to leave us a comment. Otherwise, tune in next week can we talk about term life insurance basics. Bye!
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