Last week, we began a two-part series about designating beneficiaries for your life insurance policy. Click here to read that post. Here is part 2.
Protection against your creditors.
All 50 states and the District of Columbia have statutes that protect the death benefit or cash value of life insurance, and sometimes both, from you and your estate’s creditor claims. In some states, however, the exemptions for cash value life insurance are limited to a specific dollar amount or to the amount reasonably necessary to support a beneficiary.
Beneficiary Specifications
In addition, although typically the death proceeds of the life insurance policy are never available to your creditors because they pass to your beneficiaries without ever becoming part of your estate, some states have laws that limit the exemption only to certain beneficiaries, such as a spouse, children, or other dependents. Designating a special trust called an irrevocable life insurance trust (ILIT) as the primary beneficiary of your policy can be a strategy to protect proceeds that are outside the scope of the statutory exemption.
In addition, keep in mind that it is essential that you actually name a beneficiary or beneficiaries for your life insurance policy, because if you do not and leave this designation blank, the proceeds of the life insurance policy will be payable to your estate by default. Because your estate is responsible for paying off your debts, the life insurance proceeds may be available to satisfy your creditors’ claims, and the individuals you want to benefit may never see a penny of it. On the other hand, you may choose to do this intentionally, to ensure that your estate has sufficient funds to pay off your debts. If your main goal is to provide for the needs of your family, however, name them or a trust created for their benefit as the beneficiary of the policy.
Protection against your loved ones’ creditors.
If your spouse is the primary beneficiary of your life insurance policy, the proceeds typically cannot be reached by your individual creditors. However, if your spouse has joint debts or obligations with you, for example, if he or she co-signed a mortgage loan, credit card, or personal loan with you, the proceeds may be available to creditors to satisfy those obligations, depending upon state law.
Also, it is important to keep in mind that although state law provides that the proceeds of your life insurance policy are exempt (at least partially) from your creditors, once those proceeds are in the hands of your direct beneficiaries, they typically are within the reach of their creditors. Even if your children or other loved ones do not currently have any creditors, they may eventually face lawsuits, bankruptcy, or divorce. If they are primary beneficiaries of your life insurance policy, the death benefit you intended for them to receive may be exposed to claims from those creditors.
An ILIT or other trust can also protect the death benefit through the inclusion of a “spendthrift trust” provision that prohibits trust beneficiaries from pledging the trust assets, including life insurance proceeds, as collateral. Their creditors are then only able to reach any distributions made to them from the trust.
Seek Advice About the Amount Your Beneficiaries Will Need
Seek the counsel of your financial advisor to determine the amount of life insurance benefits your loved ones will need for a financially secure future. Many factors should be taken into account, including your current income, other insurance policies, savings and investments, possible college and other future expenses, your total debt, including your mortgage, as well as the number of individuals who are financially dependent on you. It is important to establish a secure safety net, as well as provide financial stability during the transition period after your death, particularly if you are the primary breadwinner, and your spouse is the main caregiver for your children but will need to return to the workforce.
We Can Help
It is important to check with us, as well as your financial advisor, to make sure that you have covered all the bases when it comes to life insurance policies and beneficiary designations. We can help you decide how to best protect your loved ones if you pass away by carefully considering who you should name as your beneficiaries, including whether it would be advantageous for a trust to be the primary beneficiary, and how much insurance to acquire. If you already have a life insurance policy, we can also provide guidance as you review and update your beneficiary designations. We look forward to helping you gain peace of mind by ensuring the financial security of your family.
About Skvarna Law Firm in Glendora and Upland, California
A skilled attorney can assist with your estate plan. Contact us today to learn about your options (909) 608-7671. We operate offices in Glendora and Upland, California. We provide legal services for individuals living in San Bernardino, Los Angeles, Orange and Riverside Counties. This includes the cities of Upland, Ontario, Rancho Cucamonga, Fontana, Colton, Rialto, Chino, Chino Hills, Glendora, Claremont, Montclair, Pomona, La Verne, San Dimas, Azusa, Covina, West Covina, Diamond Bar, Walnut, La Puente, Corona, Norco & Mira Loma. Visit SkvarnaLaw.com to learn more.
