What Is The Difference Between Life Insurance, Wills, and Trusts?
Life insurance provides a financial payout to beneficiaries upon the policyholder’s death, wills specify the distribution of assets after death, and trusts allow for the management and distribution of assets both during and after one’s lifetime.
Life insurance, wills, and trusts are all important tools in helping individuals plan for the future and provide for their loved ones.
- Life Insurance: Your life insurance provider sends a lump sum benefit to the beneficiaries you name in the insurance documentation.
- Will: A document that names who should receive your property upon your death and appoints a representative to ensure your wishes are acted upon.
- Trust: A trust is a document and legal vehicle for ensuring property and assets go to people you name without going through probate court if done correctly.
Depending on your assets and how you want them distributed, you might use one, two, or all of the above.
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The Importance of Estate Planning
Although no one likes to think about their death, estate planning is critical to discuss with family and a legal professional. Around 46% of Americans have a will, but fewer have a broader estate plan.
Around 40% of people said they would not bother with estate planning until their life is in danger. People delay creating these plans due to perceived or actual expense, complications, time requirements, and emotional difficulty.
But estate planning can ensure your favorite vase goes to the right person that and your niece receives her small inheritance. It can also ease the emotional burden and financial decision-making your loved ones might struggle with emotionally and logistically if you die without leaving behind some guidance.
How Does Estate Planning Work?
Typically, the best place to start estate planning is by working with an attorney or professional expert familiar with your state’s laws. But here’s a quick overview.
What Is Life Insurance?
Life insurance is a financial product providing your named survivors with a cash death benefit when you pass away. Life insurance helps your loved ones in many ways, such as paying for your funeral and burial, helping replace income lost due to your death, and paying bills and debts.
With life insurance, you name a beneficiary. If you pass away, the money is easily accessible to your beneficiaries, who contact the insurance company and offer proof of death.
- Easy to access
- Multiple choices
- Monthly fees
- Limited in scope
- Requires underwriting
- Approval process
- Easy to access: Beneficiaries can easily access death benefits after your death without going through probate court.
- Flexible: The death benefit from a life insurance plan can be used for any purpose by your beneficiaries.
- Many choices: Flexible life insurance options are available for term length, death benefit amount, and type of coverage.
- Affordable: Purchasing a term life insurance policy can be simple and affordable, particularly for younger adults.
- Monthly fees: For the insurance to stay active, you must pay a monthly premium, which can rise as you age or become unhealthy.
- Can be limited: It only provides a lump sum to survivors and does not distribute other property or provide instructions.
- Medical underwriting: You may need to go through invasive application questionnaires and medical testing to get approved for life insurance
- Approval process: Not all applicants are approved for life insurance coverage.
What Is a Will?
A will is a document you create that describes how you want your assets and property distributed after death. You can also name a caretaker for your minor children. Without a will, the state decides how your property will be split up, primarily based on family relationships.
Even though you’ve created a will, a time-consuming (and sometimes expensive) court process called probate must process your will before your beneficiaries receive assets. Wills can be contested during this process, drawing out the timeline further. In addition, probate court proceedings are public, so anyone can learn more about your will and its contents.
For this reason, it’s best to work with an attorney to review your will, even if your state offers templates for creating your own will. And it’s important to note that a will cannot change a life insurance beneficiary in most cases.
- Custodial planning
- Choice of executor
- Control over asserts
- Probate court
- Can be contested
- Compliance with state laws
- May require legal aide
- Plan for your children’s custody: It allows you to appoint guardians for your minor children, not the state.
- Choose your executor: It allows you to name an executor who oversees and ensures your assets are distributed.
- Control over assets: You can distribute your assets according to your wishes, not state law determining the inheritance of assets. You can describe how particular items, assets, and property are divided among your beneficiaries.
- Probate court: Probate court can be time-consuming, expensive, and public, and your beneficiaries may not receive assets or property for a long time
- Possible contestment: Family members can still contest your will, which can draw out the process.
- State laws: Some assets, such as joint bank accounts, will be distributed according to state law and account setup, even if you have a will.
- May need a lawyer: To be considered valid, your will must follow state law closely — requiring the expense of hiring a lawyer.
What Is a Trust?
While there are a few different types of trusts, revocable living trusts are the most common. These trusts can designate where you want your property, valuables, cash, and other assets to go after you die, without relying on probate court. To set a trust into motion, you must transfer your property into the trust with the assistance of an attorney.
A trust can also name a trustee who will handle your affairs if you become incapacitated while alive. In general, trusts are constructive if your estate involves complex property types — or if you worry someone may contest your will after your passing or your affairs will be made public.
- Many options
- Control over funds
- May require help
- Cannot determine custody
- Privacy: By staying out of probate court, your trust will remain private, and you’ll avoid draining your beneficiaries in court time or cost.
- Many options: Various trusts meet different needs, such as providing for minors and protecting assets from creditors.
- Control over funds: Following state law, you can set some limits and requirements on how funds are used and distributed to your beneficiaries.
- Expensive: Setting up a trust can cost more than creating a will, as it likely requires professional advice and planning from an estate attorney.
- Complex: Creating a trust and moving property into the trust can be time-consuming and administratively complex.
- May need professional help: Understanding the different types of trusts and their advantages will require expert guidance.
- Doesn’t allow you to plan for your children’s custody: You cannot name a guardian for your minor children.
At a Glance: Comparing Estate Planning Options
Here’s a quick guide to comparing these estate planning options.
Contract providing lump sum of funds
Document and legal tool
Goes through probate court?
Names guardians for your minor children
Source of benefit
Your assets, including property, heirlooms and other items
Your assets, including property, heirlooms, and other items
Responsible for Distribution
Executor you name and probate court
Trustee you name
Receiver of Benefit
Beneficiaries you name
Beneficiaries you name
Beneficiaries you name
Estate Planning In Action
Once again, only a professional can advise you on the best estate planning options right for your specific situation. But here’s a general overview of things to consider.
Young families often choose life insurance to provide for surviving family members after a spouse’s death. The lump sum can help pay off a mortgage, keep up with bills, or pay for daycare or college. Others may wish to buy life insurance to pay for any burial or funeral costs to spare survivors the expense involved.
Apply for life insurance with the following steps:
- Shop for plans offering the term and amount you desire.
- Fill out a medical questionnaire or take a medical exam, depending on your age and death benefit amount.
- Name the beneficiary of the death benefit. You may be able to select one or more beneficiaries.
- Pay your premium for the life insurance’s term to ensure it stays in force.
Life insurance can be complicated, so speak to a professional for guidance on finding the best policy for you.
A will is critical if you want to name a guardian for your children, even if you also have a trust or life insurance.
Create a will with the following steps:
- Make a comprehensive list of your assets, select an executor, and determine your beneficiaries.
- Consult an attorney or use a state-specific online template, then draft the document, where you can specify how your assets and property should be distributed after your death.
- Designate a guardian for minor children.
- Sign the will in the presence of witnesses, and inform your executor or a trusted individual about the will’s location.
A will may be essential if you do not want to leave property to your heirs or living relatives, who may receive it if you die intestate (without a will). Remember that if you move states, you’ll likely need to create a new will that conforms with your new state’s laws.
A trust may be a good option if you own substantial assets that would need to go through a probate court and do not want those assets to be part of a public record. A trust can also be helpful if you want to name someone to manage your assets right now, such as if you’re ill or concerned about cognitive decline.
Create a trust with the following steps:
- Identify your assets and determine your objectives for the trust, such as asset protection, estate planning, or charitable giving.
- Select a trustee, someone you trust to manage the trust and follow your instructions.
- Draft and sign the document.
- Fund the trust by transferring assets, ensuring it complies with all legal requirements.
If you own property or real estate in another state, a trust can help ensure your beneficiaries receive what you leave behind. However, it will take a meeting with an attorney experienced in trusts to ensure you correctly create and carry out the estate planning process.
Can You Select Multiple Estate Planning Options?
Yes, you can — and you likely should. Each type of planning option performs a different function. Some aspects are even interrelated. For example, depending on how you set up your trust and life insurance, you may be able to name your trust as beneficiary of the death benefit. The benefit is then distributed according to your trust agreement.
Most people should have a will, for example. However, not everyone needs life insurance, particularly if you don’t have children, pets, or others to provide for. If you have significant wealth or property, an estate plan may be needed alongside a will. But if you’re in a two-parent household with young children, you’ll likely want life insurance to replace one or both parents’ lost income upon death and to name a guardian.
When Should You Update Your Will?
Consider updating your will whenever you experience a large-scale life change — divorce, a family death, or children who’ve grown. You’ll also want to update your will if you move states.
If you do not update your will, your ex-husband may receive your assets, or you may have named a now-deceased grandparent as a guardian to your children.
In addition, update your will if you move states or to a new country or own property in different locations. State law determines how wills are composed and executed, and a will valid in one state may not be valid in your new state of residence.
How To Determine Which Option Is Right For Your Situation?
The best way to determine your path forward is to meet with a financial planner who can help you decide whether or not you need life insurance, the type of insurance necessary, and the amount required. Then, speak with an estate planning professional to determine if a will, trust, or both are right for you. Some professionals may offer both services.
In addition, consider the following:
- Whether you own property, such as expensive belongings or a home — particularly in multiple states or international locales.
- If you want to choose the guardian for your minor children versus the state choosing.
- If you want to lay out conditions that must be met to receive the money.
- If you need to name someone who can help you manage your assets before death.
Putting It All Together
Estate planning is part of a wise financial strategy. By planning now, you’re helping to preserve the wealth you’ve built, add protection for survivors through life insurance, and decrease the familial infighting and burden after you pass.
Even if you’re a younger person, estate planning ensures you have a say in what happens to your money, treasured belongings, and property after you pass away. Otherwise, the state may decide who takes possession of these items if you die intestate (without a will). If you think one of these options may be right for you, meet with a qualified estate attorney to discuss your situation and plan for the future.