When I mentioned to a colleague that I was going to write about life insurance, she wanted to run the other way! I understand—life insurance is certainly not the most riveting topic. However, life insurance is a cornerstone of many people’s financial plan, and there are nuances that sometimes get overlooked. Let’s focus on four questions you should ask to maximize the benefits of owning life insurance.
If it’s been a while since you’ve reviewed your current life insurance, it’s a good time to do this now—waiting can truly cost you money. How much life insurance is “enough” is unique to each person’s financial and family circumstances, so don’t short-cut this important conversation.
Life moves quickly as families grow and change and so does the need for life insurance. Life insurance death benefits are used for more than just replacing immediate income from the family breadwinners. They can also pay off the mortgage and other debts, cover college costs, create a retirement fund for a surviving spouse, fund a business transfer or be a valuable estate planning tool.
The point is that as you take control of your finances, you need to protect your loved ones against a pre-mature death and have a solid safety net. That safety net can extend to many people, especially in the case of divorce and re-marriages.
Specifically, in the case of divorce with future child and spousal support obligations due to you, you would want your divorce settlement agreement to stipulate that your ex-spouse, as payor, maintains a sufficient life insurance policy naming you, as the recipient-beneficiary, to cover all future commitments. Just as important is to be notified by the life insurance company of any policy changes or lapses since you may be depending on this money in the future should something happen to your ex-spouse.
Stay-at-home spouses and care-givers often need life insurance on their lives also since replacing their duties could incur many unexpected costs for the survivor.
Has it been years since you updated your primary and contingent beneficiaries? Below are a few Do’s and Don’ts when naming a beneficiary – more can be found on 10 common mistakes when choosing life insurance beneficiaries:
Designating a Trust as beneficiary for minor children, special-needs individuals or a loved one who has no financial sensibility allows you to specify terms with a more controlled intent. Trusts can be revocable or irrevocable, and we strongly advise working with an estate attorney to establish the appropriate trust for your intended purpose. See 5 Reasons to Consider a Special Needs Trust.
Remember, if you are the owner and insured, the death benefit will be included in your gross estate for tax purposes. Having life insurance owned by an irrevocable life insurance trust (ILIT) allows the death benefit proceeds to be removed from the insured’s estate unless the three-year-look-back rule applies.
ILITs can benefit large estates by minimizing federal and state estate taxes. If the decedent has a large estate and is a resident of a state with a lower state estate tax exemption than the current (2019) federal $11.4 million exemption (which is the case for Maryland at $5 million and D.C .at $5.6 million), owning life insurance in an ILIT may save substantial estate taxes.
Life insurance policies are contracts, and like any contract, it’s important to read the fine print. Below are some universal exclusions that may prevent your beneficiaries from receiving their intended death benefit:
Bottom line, life insurance is there to protect your loved ones. Be honest on your application and don’t forget to proactively review your life insurance needs and update beneficiaries based on your current circumstances.
Consider this your training manual to get and stay financially fit for life!