As we talked about last week, investing in life insurance is a foundational part of estate planning. However, when naming your policy’s beneficiaries, there are a number of mistakes you can make that could lead to potentially dire consequences for the very people you’re trying to protect and support.
The following four mistakes are among the most common we see clients make when selecting life insurance beneficiaries. If you’ve made any of these errors, contact us right away, so we can amend your policy to ensure its proceeds provide the maximum benefit for those you love most.
01 | FAILING TO NAME A BENEFICIARY
Although it would seem like common sense, whether intentional or not, far too many people fail to name any beneficiary at all. Others make the mistake of naming “my estate” as the beneficiary, rather than listing a specific person. Both of these errors will mean your insurance proceeds will have to go through the court process known as probate.
During probate, a judge will determine who gets your insurance death benefits, and this process can tie the benefits up in court for months or even years, depending on who the beneficiaries of your estate are under the law. Moreover, probate opens up the proceeds to creditors, which can seriously deplete—or even totally wipe out—the funds.
To prevent this, make certain you name—at the very least—one primary beneficiary. In case your primary beneficiary dies before you, you should also name a contingent (alternate) beneficiary. For maximum protection, name more than one contingent beneficiary in case both your primary and secondary choices die before you.
02 | FAILING TO KEEP BENEFICIARIES UPDATED
While failing to name any beneficiary at all is a huge mistake, not keeping your beneficiary designations up to date can be even worse. This is particularly true if you are in a second (or more) marriage and fail to remove an ex-spouse as beneficiary, which can leave your current spouse with nothing when you die.
To prevent this, you should review your beneficiary designations annually as part of an overall review of your estate plan, and immediately update your beneficiaries upon events like divorce, deaths, and births. When you are a client of ours, we have built-in systems to ensure your beneficiary designations (along with all other documents in your plan) are regularly reviewed and updated.
03 | NAMING A MINOR AS BENEFICIARY
Though you are technically allowed to name a minor child as beneficiary, it’s never a good idea. Minor children cannot receive insurance benefits until they reach the age of majority—which can be as old as 21 in some states. If a minor is listed as the beneficiary, the proceeds of your insurance will be distributed to a court-appointed custodian, who will be in charge of managing the funds (often for a fee) until the age of majority, at which point all benefits are distributed to the beneficiary outright.
This is true even if the minor has a living parent. A child’s living parent could petition to the court to be appointed custodian, but there is no guarantee that a parent would be appointed as custodian, especially if the parent cannot qualify or pay for a bond. In many cases, a court could deem a parent unsuitable (if they have poor credit, for example) and instead appoint a paid fiduciary to control the funds.
Rather than naming a minor as beneficiary, you should set up a trust to receive the insurance proceeds, and name a trustee to hold and distribute the funds to a minor child you would want to benefit from your insurance proceeds. By doing so, you get to choose not only who would manage your child’s money, but also how and when the funds are distributed and used.
04 | NAMING AN INDIVIDUAL WITH SPECIAL NEEDS AS BENEFICIARY
Although a loved one with special needs is likely one of the first people you’d think of naming as beneficiary of your life insurance policy, doing so can have tragic consequences. If you leave the money directly to someone with special needs, it could disqualify that individual from receiving much-needed government benefits.
Rather than naming someone with special needs as beneficiary, you should create a “special needs trust” to receive the insurance proceeds. This way, the money won’t go directly to the beneficiary upon your death, but it would be managed by the trustee you name and dispersed according to the trust’s terms, without affecting benefit eligibility.
The rules governing special needs trusts are complicated and vary greatly from state to state, so if you have a child with special needs, meet with us today to discuss your options. In the end, special needs planning involves much more than just life insurance—it’s about providing for a lifetime of care and protection.
DON’T CREATE PROBLEMS
While naming life insurance beneficiaries might seem like a simple task, if you’re not careful, you can create major problems for the loved ones you’re trying to benefit. Meet with us today to be certain you’ve done everything properly.
We can also support you in putting in place planning tools like trusts—special needs or otherwise—to ensure the proceeds provide the maximum benefit for your beneficiaries without negatively affecting them in any way. Schedule a Family Wealth Planning Session to get started.
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