Choosing a life insurance beneficiary, or person designated to receive benefits when the policyholder dies, requires careful consideration. Policyholders may choose one or more named beneficiaries, depending on their financial circumstances, state laws, and whoever might benefit the most from receiving these funds.
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What is a Beneficiary?
When a life insurance policyholder dies, the life insurance company pays a sum of money to a named beneficiary. The policyholder pays monthly premiums toward the cash value of the policy, growing its death benefit, also known as the payout amount. The named beneficiary of a life insurance policy is the individual(s) who receive the death benefit of the policy.
While the terms of a life insurance plan can range from fixed to flexible, all varieties of policies include designated beneficiaries. Ideally, policyholders name a primary beneficiary or beneficiaries and contingents, providing an alternate plan to distribute their funds according to their wishes in any scenario.
Primary Beneficiaries
Primary beneficiaries are the first to receive the death benefit when the policyholder dies, and policyholders can choose one or multiple primary beneficiaries. Policies with a single primary beneficiary pay the full amount of the death benefit to that person.
For policies with multiple named beneficiaries, the policyholder may assign specific percentages to each person, or other distribution methods such as per capita or per stirpes. Per capita distribution divides the shares of the death benefit equally among the named beneficiaries. Per stirpes divides the death benefit equally among a branch of the family, beginning with a named beneficiary and extending to their next of kin.
Contingent Beneficiary
A contingent beneficiary receives the death benefit in the event that the primary beneficiary falls through. A contingent beneficiary would receive the death benefit if the primary beneficiary cannot be located, dies before the policyholder, or refuses to accept the payout from the policy.
Contingent beneficiaries can only receive a payout if the primary beneficiaries do not. Policyholders may plan to distribute funds as they see fit to their contingents, in the event their primary beneficiary cannot accept the award. For example, policyholders commonly name their spouse as primary and their children as contingents.
Naming Beneficiaries
Naming a beneficiary or beneficiaries requires a multi-step process. Some experts suggest that policyholders consider their reason for buying a life insurance policy in the first place as a starting point. For example, a policyholder most concerned with providing for their family when they die might name their spouse and children as beneficiaries.
Policyholders can also make a list of their top candidates. Then, the policyholder can assess how each candidate might be affected financially by their death, and who among them might benefit the most from receiving the inheritance.
Why Do I Need to Name a Beneficiary?
Including a named beneficiary on your life insurance policy details where you want your hard-earned money to go when you die. Life insurance companies can distribute the death benefit quickly and efficiently when the policy names a beneficiary. Information required of a named beneficiary includes their full name, social security number, address, and date of birth.
Policyholders who do not name a beneficiary may invite complications after they pass away. Naming a beneficiary ensures a policyholder’s death benefit will be distributed according to their exact wishes. As a legally binding contract, a life insurance policy also protects the named beneficiary against anyone who tries to challenge the distribution of funds.
What Happens if I Don’t Name a Beneficiary?
Failing to name a beneficiary can tie up a policyholder’s inheritance after they die. A policy without any named beneficiaries leaves no clear instructions for how to distribute funds; therefore, the death benefit becomes part of the policyholder’s estate. The probate court system then takes over the estate to distribute funds as they see fit.
Divvying up death benefits through the court system can take months or even years. This lengthy process is often further complicated by creditors looking to settle debts with the policyholder posthumously or survivors of the policyholder trying to seek benefits in court. Family of the policyholder not named as beneficiaries have no legal right to the death benefit.
Immediate Family
Many policyholders decide a member or members of their immediate family should be named beneficiaries, as they will benefit the most from receiving a life insurance payout. For example, policyholders commonly name spouses and children as primary and contingent beneficiaries, respectively.
In common property states–Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin–policyholders currently married and living with their spouse are obligated to name them as the beneficiary. In these states, policyholders must obtain consent from their spouse to name anyone other than them as a beneficiary. Other states leave it up to the policyholder to decide who should inherit their death benefit.
Naming Minors
Many policyholders want reassurance that, when they die, their minor children are provided for. Naming a minor as beneficiary is quite common but involves a complex process. Since minors cannot legally manage their own financial stake in the inheritance, insurers may require policyholders to name the minor’s legal guardian as the beneficiary.
Policyholders can also designate a custodian as beneficiary through the Uniform Transfers to Minors Act or create a trust for the minor, which includes the added benefit of specifying how funds can be used and when they should be released. When the policyholder dies, funds distributed to a minor through a custodian who is not their parent or legal guardian may first require court approval.
Special Needs and Other Lifelong Dependents as Beneficiaries
Policyholders may choose to designate someone as a beneficiary who has special needs or requires long-term care. Common examples include minors who will need regular healthcare services over the course of their lifetime or aging parents. Experts recommend creating a trust for a special needs or lifelong dependent as a beneficiary.
Forming a trust enables a trustee or custodian to distribute the funds to the beneficiary. This is preferred, especially if the beneficiary is a minor, since naming a minor beneficiary without a designated legal guardian may require the courts to intervene and delay the death benefits.
Additionally, a trust will not interfere with a beneficiary’s potential social security or Medicaid income like some other methods of distribution.
How to Determine a Beneficiary
The process of naming a beneficiary depends on a policyholder’s unique life circumstances. Policyholders should consider not just the obvious choice but various factors in making their decision. Ultimately, death benefits should go to those who need and deserve them most.
Beyond naming your spouse and children as beneficiaries, policyholders may choose another family member, close friend, business associate, or organization. Policyholders must consider not only who could benefit most from the funds but what percentage each beneficiary should receive if there are multiple designees. Explore the following examples of common scenarios:
I’m Married with Kids
Naming a spouse as beneficiary is a natural choice among married policyholders, with potential contingencies if they have children, since taking care of their family after they die tends to be a primary concern. Policyholders often name their spouse as the primary beneficiary and their kids as contingents.
In this scenario, when the policyholder dies, the spouse receives 100% of the death benefit. If the spouse dies or cannot accept the payout, the children receive it as contingent beneficiaries. Policyholders may also choose to name their spouse and kids primary beneficiaries or their minor child a primary beneficiary and their spouse the custodian.
I’m Married with No Kids
Policyholders who are married with no kids may not have any obligation to include biological dependents on their policy, but they may live in a state that upholds community property laws. Naming a spouse as beneficiary is generally common for married policyholders, but it is also expected in states that recognize assets, including life insurance policies as community property.
Aside from their spouse, married policyholders may leave some or all of their inheritance to another living relative, close friend, trust, or charitable organization. They may select primary and contingent beneficiaries and what percentage each party should receive.
I’m a Single Parent
Many single parents buy life insurance to provide for their children after they die. As their children’s caretakers in life, single parents commonly name their dependents as the primary beneficiaries of their life insurance policies. If their children are minors, policyholders should designate a custodian or create a trust on their behalf to ensure they receive the funds.
Single parents may also name a close family member or friend as the primary beneficiary with the understanding that this beneficiary will provide for the child using the death benefits. Alternatively, a policyholder might name their child as a co-beneficiary or contingent to the primary beneficiary on their policy.
I’m Single with No Kids
Single policyholders with no children should consider their circumstances when choosing a life insurance beneficiary. Policyholders in this scenario are free to choose from a person or people in their life who would be most deserving of their death benefit.
They may name a sibling or their parents as beneficiaries or consider a close relative, friend, or charitable organization.
I Have Multiple Financial Obligations to Family Members
Policyholders can name multiple family members as beneficiaries, each awarded a percentage of the death benefit. Insurers typically allow policyholders to designate whether their family members should receive specific percentages, per stirpes, or per capita benefits. They should also carefully select both primary and contingent beneficiaries.
A policyholder may divide the payout equally between family members or assign specific percentages. Per stirpes and per capita distribution allows policyholders to extend some of the payout to next-generation family members such as grandchildren if the primary beneficiary dies before they do. Policyholders may also choose to buy multiple separate life insurance policies.
Can You Change Beneficiaries?
Yes, policyholders may decide to change beneficiaries if they experience a life change, such as getting married, getting divorced, or having a child. If a primary beneficiary predeceases the policyholder and fails to change the beneficiary on the policy, the death benefit will go to the co-beneficiaries or contingent beneficiary or, if none are named, get tied up in probate court.
Insurers make the process of changing revocable beneficiaries, such as extended family members or children, simple and easy; however, changing an irrevocable life insurance beneficiary, such as a spouse in a community property state, is challenging at best. Policyholders need the express consent of the irrevocable beneficiary to change their payout amount. Additionally, policyholders must remember to update their will alongside their life insurance policy since life insurance requires a specific beneficiary designation and supersedes a will in most cases.
When to Update Your Beneficiaries
You can update your beneficiaries as frequently as needed, though not all life changes warrant an update. Ask yourself how a major change in your life, such as a marriage, divorce, the birth of a child, retirement, or the death of a beneficiary, might affect those receiving your life insurance proceeds.
Some life insurance companies request that policyholders submit a beneficiary change form, either in person or by fax or email. Others enable policyholders to make the change themselves online. Some scenarios may require policyholders to rethink their coverage at the same time they consider modifying, removing, or adding a beneficiary.
Special Circumstances for Changing Beneficiaries
While revocable beneficiaries can be changed easily, irrevocable beneficiaries cannot be removed from a life insurance policy without approving the change themselves. In some cases, irrevocable beneficiaries are required to approve any changes to a life insurance policy. Though rare, irrevocable beneficiaries are sometimes named in a prenuptial agreement.
Other special circumstances include policyholders who live in a community property state. In this scenario, policyholders who bought their policy after they got married in Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, or Wisconsin must obtain permission from their spouse to name anyone else as the beneficiary on their policy.
When Should a Beneficiary Be a Trust?
Policyholders may create a trust to distribute funds instead of naming a person or persons as beneficiaries. Insurance companies might recommend a trust for named beneficiaries who are minors, disabled, or unreliable money managers. Establishing a trust as a beneficiary involves unique advantages and disadvantages, subject to interpretation.
A trust can help the intended recipients of your death benefit avoid losing social security and Medicaid benefits and paying taxes on the funds. Trusts typically award funds through minimum distribution payouts over time instead of in a lump sum, which may help minors or beneficiaries seeking financial planning assistance invest wisely. Conversely, this may delay much-needed funds intended to be distributed immediately upon death to other adult beneficiaries.