In a 2018 survey by bestliferates.org, about 1/3 of respondents said their families would experience financial hardship if one of the home’s breadwinners passed away. That’s why, if you are an income earner, you need to have life insurance available to help your loved ones if you die. However, protecting them isn’t just about having a policy; it is about making sure the money therein goes where it needs to go. This means naming the right policy beneficiary and contingent beneficiary.
Who are Life Insurance Beneficiaries?
Unless life insurance pays a cash value or accelerated death benefit (which typical term life policies don’t) the insured person won’t receive the policy’s funds personally. That’s because they have to die for the main payout (the death benefit) to occur. Those who receive the death benefit are the ones who the policyholder as names the beneficiaries.
You have the right to name your policy’s beneficiary. There are generally few restrictions on who you can choose, and people typically name:
- Children (Life insurance companies won't pay the proceeds directly to minors. If you haven't created a trust or made any legal arrangements for someone to manage the money, the court will appoint a guardian, a costly process, to handle the proceeds until the child reaches 18 or 21, depending on the state. Instead, you can leave the money for the child's benefit to a reliable adult by; set up a trust to benefit the child and name the trust as the beneficiary of the policy; or name an adult custodian for the life insurance proceeds under the Uniform Transfers to Minor Act. Consult an estate attorney to decide the best course.)
- Extended family
- Friends or business partners
- Charitable organizations
- Estate executors
Your goal should be to leave the money to the party for whom it would do the most good. For most people with families, these are their spouses or children who rely on their income. The policy can, in essence, provide them with the funds they need to get by.
Most people name a single beneficiary. However, many policies allow you to choose more than one. You usually have the right to change beneficiaries, though some restrictions exist. Remember to always name a contingent beneficiary.
How to “Control” Beneficiaries and Funds
In the most-basic policy setups, beneficiaries usually have no requirements on how to spend a death benefit. This can be a good thing, since they’ll be able to apply the money to their own needs.
Still, if you want the money to go to a specific use, you might need to take a few extra steps to ensure that happens. Establishing a trust is one of the ways many policyholders do so.
A trust is a fund that contains attached terms that govern the use of the included money. It serves as the policy’s beneficiary. As a simple example, after the insured person dies, the trust receives the death benefit. You choose a trustee who must distribute your money for its intended purposes. If you want the money to pay for your child's education, the trust can enforce rules that distribute the money to the child’s tuition. If you worry that your child will not be responsible with the money, you can establish rules that set periodic payments that will slowly pay the money.
Setting a beneficiary or creating a trust will take time and thought. You can work alongside your life insurance agent, your estate attorney and even your financial adviser to do so. Make sure to set this up as soon as you can as tomorrow is never promised.