Life Insurance: Child Or Spouse? Who Gets The Money?

Life insurance is an important part of financial planning, helping your loved ones maintain their quality of life in the event of your death. While a spouse is typically the primary beneficiary on a life insurance policy, it is possible to name a child as the primary beneficiary instead. This can be done by purchasing a joint life insurance policy with your spouse or by adding a child rider to your existing policy. It is important to note that, in some states, you may be required to name your spouse as a beneficiary if you have one. Additionally, minors cannot directly receive death benefits, so it is usually best to designate a spouse or other caregiver as the beneficiary.

Naming a child as a beneficiary

The idea behind life insurance is to provide money to your loved ones to help protect them financially after you’re gone. The person who receives the payout from your policy is called your beneficiary. While a lot of people name a close relative, such as a spouse, brother, sister, or child, as their beneficiary, you can also choose a more distant relative or a friend.

If you are considering naming your child as a beneficiary, it is important to note that minors cannot be paid the death benefit directly. Therefore, it is recommended to name an adult beneficiary or set up a trust for your child. If you name a minor child as your beneficiary, a court will have to appoint an adult custodian to manage the funds from the payout, which can take several months and result in additional legal fees.

To avoid these delays and ensure your child receives the payout promptly, you can set up a trust for them. This way, they will receive the benefit without having to pay taxes or legal fees. A trust is a popular estate planning tool that allows you to indicate who will receive your assets when you die. A trustee manages the trust and ensures the correct individuals receive their benefits. You can create a revocable trust, which can be adjusted over time, or an irrevocable trust, which cannot be changed once it is created.

Another option is to designate a custodian for your child. A custodian is responsible for claiming and managing the death benefit on your child's behalf until they turn 18. The custodian can use the money for the child's interests, such as tuition or necessities.

In some states, you can also create a "custodial account" that will hold the money for the child until they reach the legal age of consent. It is important to check with your insurance company or state to understand the specific requirements and options available to you.

Choosing a contingent beneficiary

When you purchase a life insurance policy, you will be asked to name a primary beneficiary. This is the person who will receive the death benefit if you pass away while your plan is still active. Typically, this is a spouse or another close family member. However, you can also name a contingent beneficiary, also known as a secondary beneficiary, who will benefit from your policy if the primary beneficiary cannot receive the payout.

Dependents

If you have dependents who would need financial support in the event of your death, it's important to consider who would care for them and manage any financial responsibilities. In this case, it might be a good idea to name your children as contingent beneficiaries. However, if your children are minors, you will need to designate a trustee to manage the estate on their behalf until they reach adulthood.

Adults vs Minors

Naming adults as beneficiaries is a more straightforward process, but if you want to name a minor, there are additional steps to take. You may need to create a trust or custodial account to manage the funds until they reach the age of majority, which is typically 18 years old.

Financial Responsibilities

Consider who would be responsible for your financial obligations, such as debts, mortgage, or dependents, if your primary beneficiary is unable to fulfil this role.

Organisations

If you have charitable causes or organisations that you care deeply about, you may want to consider naming them as contingent beneficiaries. This ensures that your money will go to a meaningful cause if your primary beneficiary is unavailable.

Remember, you can name multiple contingent beneficiaries and specify how the death benefit should be divided between them. It's also a good idea to regularly review and update your beneficiary designations, especially after significant life events such as marriage, divorce, or the birth or death of a loved one.

Purchasing life insurance for children

Pros of Purchasing Life Insurance for Children:

• Guaranteeing Future Insurability: By purchasing a policy while your child is young and healthy, you ensure that they will have coverage later in life even if they develop a medical condition that would otherwise make it difficult or expensive to obtain insurance. This is especially relevant if your family has a history of genetic medical conditions.
• Building Wealth: Life insurance policies for children often include a cash value component, allowing the policy to act as a savings vehicle. The cash value grows over time and can be accessed by the child later in life for various purposes, such as a down payment on a home or education expenses.
• Coverage for Final Expenses: While rare, the death of a child can result in unexpected costs for the family. A life insurance policy provides a lump-sum payout to cover burial costs, grief counselling, or other expenses during a difficult time.
• Long-term Coverage: Whole life insurance policies for children can provide lifelong coverage, as long as the premiums are paid. The rates are locked in at a low price, ensuring affordability throughout their life.

Cons of Purchasing Life Insurance for Children:

• Low Rate of Return: Whole life insurance policies often provide a low rate of return on the cash value component when compared to other investment options. For example, investing in a 529 college savings plan may yield higher returns over time.
• Long-term Commitment: Purchasing life insurance for a child is a long-term financial commitment. Failing to keep up with premium payments could result in a loss of coverage. It's important to ensure you can afford the premiums for the long term.
• Low Coverage Limits: Life insurance policies for children typically have low coverage limits, which may not be sufficient for an adult with a family to support. Once they reach adulthood, additional coverage may be necessary.
• Limited Options: The market for child life insurance is more limited than that for adults, requiring more effort to find the right policy and insurer.

Factors to Consider:

When deciding whether to purchase life insurance for your child, it's essential to assess your own financial situation and priorities. Ensure that you have adequate coverage for yourself and are on track with other financial goals, such as retirement savings, before considering a policy for your child. Additionally, evaluate the specific features and costs of the policy, including the coverage amount, payment schedule, and potential cash value.

In conclusion, purchasing life insurance for children can be a valuable decision for some families, particularly those with specific concerns about future insurability or those seeking additional wealth-building opportunities. However, it is not a necessity for everyone, and careful consideration of the pros, cons, and alternatives is essential.

Divorce and life insurance

Divorce is a significant life event that can impact your need for life insurance. In addition to alimony, child support payments, and the division of marital assets, the court may require individuals who don't have life insurance to purchase a new policy as part of the divorce decree.

Reviewing and Adjusting Life Insurance Policies

During a divorce, it is essential to review and adjust your life insurance policies. This includes updating beneficiaries, accounting for cash value in permanent policies, and ensuring that any children involved remain financially protected.

Beneficiary Updates

Most married individuals list their spouse as the primary beneficiary on their life insurance policy. However, after a divorce, you may want to remove your spouse as the beneficiary, especially if there are no children involved. It is important to consult a lawyer before making any changes, as the terms of your divorce may require you to keep your ex-spouse as a beneficiary, especially if you are providing alimony or child support.

Accounting for Cash Value

Some life insurance policies, such as whole and universal life policies, accumulate cash value over time. This cash value is considered a marital asset and is subject to division during the divorce process. You may need to divide the cash value with your ex-spouse or make other arrangements, such as cashing out the policy and splitting the proceeds.

Protecting Alimony and Child Support

If you receive alimony or child support from your ex-spouse, it is crucial to ensure that these payments are protected. One way to do this is by maintaining a life insurance policy on your ex-spouse with a benefit amount high enough to replace the lost income in the event of their death.

Life Insurance for Single Parents

If you become a single parent after the divorce, it is essential to have adequate life insurance to protect your children financially. To determine the appropriate benefit amount, consider calculating how many years your youngest child will depend on your financial support and multiply this number by your annual income.

Court-Ordered Life Insurance

In some cases, a judge may require you to carry a life insurance policy with your ex-spouse as the beneficiary, especially if child support, alimony, or other financial support is involved. It is important to consult with your divorce lawyer to understand the specific requirements and legal implications.

Overall, divorce and life insurance are interconnected, and it is crucial to review and adjust your policies accordingly to protect your financial interests and those of your dependents.

Community property states

In the US, there are nine community property states: Alaska, California, Florida, Kentucky, Nevada, South Dakota, Tennessee, Washington, and Arkansas. In these states, a spouse is automatically considered the beneficiary of a life insurance policy. This is because community property states view married couples as joint owners of almost all assets and debts acquired since the wedding.

In community property states, the policyholder must receive the spouse's permission to list anyone else as the beneficiary. If the policyholder does not receive this permission and names someone else as the beneficiary, the spouse is still entitled to half of the death benefit. This is because the law splits community property in half.

However, there are exceptions to community property laws. For example, any property acquired before marriage, through inheritance, or as a gift is considered separate property. Additionally, if there is a prenuptial agreement in place, this may also affect the distribution of assets.

It is important to note that community property states have different specific laws, so it is recommended to consult with an attorney or specialist familiar with the state's laws.

Frequently asked questions