Introduction
Life insurance is perhaps the most critical financial instrument to make arrangements for your loved ones’ future in the event of an untimely occurrence. But simply buying an insurance policy alone cannot guarantee financial stability for your family. Naming and maintaining life insurance beneficiaries correctly is essential to ensure that the desired ones get the payment without delay or legal issues.
A beneficiary is an individual trust or organization that is named to receive the proceeds of a life insurance policy in the event of the policyholder’s death. Not naming a beneficiary correctly or failing to update it when required can result in legal hassles disputes or even proceeds going to unintended parties.
This is an in-depth guide that will make you learn about the significance of naming your beneficiaries properly the steps to renew them and how to avoid mistakes.
What is a Life Insurance Beneficiary
A life insurance beneficiary is the person or organization that will receive the death benefit of a policy upon the death of the policyholder. The death benefit is a one-time payment provided by the insurance company that is typically applied to pay for expenses like funeral bills outstanding debts everyday living expenses or other financial obligations.
Beneficiaries are usually spouse’s children or other relatives but may also comprise friends businesses charitable organizations or trusts as per the preference of the policyholder.
Types of Beneficiaries
It is important to know about the various types of beneficiaries so that you can take wise decisions while planning your life insurance policy.
Primary Beneficiary
A primary beneficiary is the first to receive the life insurance benefit. The policyholder may have one or more primary beneficiaries and assign specific percentages of the total benefit to each individual.
For instance a policyholder can designate his or her spouse as the first beneficiary and distribute one hundred percent of the benefit to him or her. But if he or she decides to divide the benefit among several individuals he or she could give fifty percent to a spouse and fifty percent to a child.
Contingent Beneficiary
A contingent beneficiary or secondary beneficiary is the one or organization to whom the payment goes only when the primary beneficiary has died or is unable to receive it. This is meant to prevent the life insurance payment from going through probate should the primary beneficiary not be present.
For example, if the policyholder specifies the spouse as the primary beneficiary and the child as the contingent beneficiary the child will receive the payment only when the spouse is not alive at the time of the policyholder’s death.
Revocable and Irrevocable Beneficiary
A revocable beneficiary can be modified by the policyholder any time without approval from the beneficiary. This is convenient in instances of significant change in life, for example, marriage divorce or the birth of a child.
An irrevocable beneficiary, on the other hand, cannot be taken out of the policy without their permission. Once identified as an irrevocable beneficiary, an individual has a legal claim to the insurance benefits and any amendments need their authorization.
Individual vs Entity Beneficiary
An individual beneficiary is a particular individual like a spouse child or relative who will get the insurance payment.
An entity beneficiary may be a charity a business or a trust. Policyholders typically name entities as beneficiaries if they wish to donate to a cause leave a legacy or have their business run smoothly after they are gone.
How to Properly Name a Life Insurance Beneficiary
Naming beneficiaries for life insurance involves meticulous planning so that the proceeds are paid in accordance with your wishes. Below are some of the important steps to take when naming beneficiaries.
Use Full Legal Names
To prevent confusion and legal conflicts always use the full legal name of the beneficiary instead of vague terms like spouse or children. This ensures that the insurance company pays the benefit to the intended individual.
For instance instead of my wife as the beneficiary write Jessica Marie Johnson spouse.
Define Beneficiary Percentages
When the beneficiaries are more than one, indicate the percentage of the benefit that is to be given to each individual. This is to avoid conflicts among the surviving beneficiaries as to how to share the payout.
For instance if a policyholder has two children they can put fifty percent for each child. In the case of three children they can share the benefit as thirty percent thirty percent and forty percent.
Consider Age and Financial Responsibility
If you are designating a minor as a beneficiary bear in mind that life insurance companies do not normally make payments directly to minors. Instead, the funds can be kept in court until age of majority. To prevent this you can create a trust or name a legal guardian who will have control of the money in the name of the minor.
Do Not Name Your Estate as the Beneficiary
Certain policyholders incorrectly name their estate as beneficiary. This however can cause the payment to be made through probate which might slow down the release of money and incur more legal costs. Naming specific persons or a trust as the beneficiary instead ensures easy and quick transmission of money.
Plan for Special Needs Dependents
If you have a dependent with a special need do not name them specifically as a beneficiary as this could affect their governmental assistance program eligibility. In lieu of this, establishing a special needs trust will guarantee that they will be provided for financially without forgoing the availability of necessary benefits.
How to Update Your Life Insurance Beneficiaries
It is significant to review and renew your life insurance beneficiaries frequently so that they correspond with your life situation currently.
When Do You Update Beneficiaries
You update your beneficiaries when
- Marriage Update the policy to reflect the addition of a spouse if so desired
- Divorce Take off an ex-spouse if so concerned
- Birth of a Child Name your child as a beneficiary
- Death of a Beneficiary If one of the named beneficiaries dies revise your policy appropriately
- Changes in Financial Dependents If there is a change in financial responsibilities, consider changing the beneficiary designations
How to Change Beneficiaries
To update your beneficiary call your insurance company and ask for a beneficiary change form. Fill out the form with new information and return it as instructed by the insurer. Reviewing your policy documents following the update is recommended to guarantee accuracy.
Common Mistakes to Avoid When Naming Beneficiaries
Avoiding such common errors will prevent legal disputes and allow your loved ones to get the benefits without any hindrance.
Failure to Name a Beneficiary
In the absence of naming a beneficiary the insurance proceeds will go to your estate that might lead to delay and probate process.
Not Updating Beneficiaries After Life Events
Forgetting to change beneficiaries after significant life events can leave an ex-spouse with the benefits or omit new dependents.
Naming a Minor Without a Guardian or Trust
Naming a minor without designating a guardian or establishing a trust the payout can be put on hold until they become legally an adult.
Assuming a Will Overrides a Life Insurance Policy
A policy does not revoke a will. The policy’s beneficiary is favored over any designation in a will.
Naming a Beneficiary With Significant Debt
If the beneficiary has major debt, the creditors can use it to make a claim against part of the life insurance payout. A trust can be put in place to protect the funds.
The Importance of Regularly Reviewing Your Life Insurance Beneficiaries
Many policyholders make the mistake of setting their beneficiaries at the time of purchasing a policy and never reviewing them again. However, life circumstances change, and failing to update beneficiaries can lead to unintended financial consequences.
Why Regular Reviews Are Necessary
- Ensuring Your Intentions Are Honored
If your beneficiary designations are out of date, your insurance payment could go to someone you no longer want to receive it. For instance, if you designated a former spouse and did not change your policy after a divorce, they could still be legally entitled to the benefits. - Avoiding Probate and Legal Conflicts
If no obvious beneficiary is named or if there are competing claims, the payment can become the subject of legal contests. In others, the payment may go into the estate, leading to probate delays and added legal costs. - Accounting for New Family Members
Births, adoptions, or other family structure changes may necessitate changes to your policy. If you have children born after you bought the policy and did not list them as beneficiaries, they may not be financially protected. - Adjusting for Financial Changes
If a named beneficiary is no longer financially dependent on you, you may want to alter your designations to align with new financial goals. For instance, if you initially designated your parents as beneficiaries but, over time, you acquire children who rely on you, it’s a good idea to revise your policy so that your family receives improved financial coverage.
How Often Should You Review Beneficiaries
A general rule of thumb is to check your beneficiary designations:
- Every two to three years
- After significant life events like marriage, divorce, the birth of a child, or the passing of a beneficiary
- When there are major financial changes, such as inheriting money or a change in employment
