Life Insurance: Community Or Separate Property?

Term life insurance is a policy that provides a death benefit for a specified period of time, guaranteeing payment to the policyholder's beneficiaries if they die within the term. In community property states, the policyholder's spouse is automatically considered the beneficiary, and the proceeds of the policy are deemed community property. The characterisation of a term insurance policy as community or separate property depends on the source of funding for the final premium of the policy. If the final premium is paid with separate assets, the death proceeds are considered separate property. However, if the final premium is paid with community property, the proceeds are considered community property. Understanding the distinction between community and separate property is crucial when determining the rights of spouses or beneficiaries in the event of divorce or death.

Term life insurance proceeds as community or separate property

Term life insurance proceeds can be considered community or separate property depending on several factors. These factors include the source of funding for the final premium of the policy, the insurability of the insured, and whether the amount of the final premium payment is capped or discounted against the current market cost of comparable coverage.

If the final premium is paid solely with community property, the proceeds of the policy are generally considered community property. On the other hand, if the separate estate pays for the final premium with no help from the community, the proceeds are typically deemed a separate asset.

In community property states, life insurance policies are often technically owned by both spouses. This includes states like Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin. In these states, term life insurance proceeds are considered community property, and the surviving spouse is typically entitled to fifty percent of the benefits, even if they are not the named beneficiary. The remaining half of the payout would then go to the named beneficiary.

However, it's important to note that state laws vary, and the definition of "marital asset" can differ from state to state. Additionally, some states have revocation-upon-divorce statutes that automatically remove an ex-spouse as a life insurance beneficiary when the divorce is finalized.

It's always recommended to consult with a lawyer or financial advisor to understand the specific laws and regulations that may apply to your situation.

Community property states

In the US, there are nine community-property states: Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin. Alaska and Tennessee are considered "opt-in states", where spouses can decide to opt in and participate in the state's community-property laws.

In a community-property state, once a couple gets married, they become equally responsible for and have equal claim to everything they own. This includes income and all assets acquired during the marriage. In the case of a divorce, the couple must split everything evenly between them unless a prenuptial agreement states otherwise.

In the context of life insurance, community-property laws can have significant implications. Term life insurance policies are considered community property, and the entire policy and its benefits are deemed jointly owned by both spouses. This means that the surviving spouse would have the right to 50% of the benefits, even if they are not the named beneficiary. The other half of the payout would go to the named beneficiary.

For permanent life insurance policies, such as whole or universal life insurance, the benefit is prorated when the insured passes away. The surviving spouse's entitlement depends on the proportion of the policy that was paid for with community property.

For example, consider a couple in a community-property state. Partner A purchases a life insurance policy two years before marrying Partner B and uses their own money to pay for the first two years of premiums. After the marriage, Partner A continues to pay the policy premiums with income now considered community property. If Partner A dies one year later, Partner B would be entitled to half of one-third of the payout (16.6%), as the other half of the policy was paid for with separate property.

It is important to note that community-property laws can vary from state to state, and it is always advisable to consult with a legal professional familiar with the specific laws in your state.

Whole life insurance as a marital asset

Whether or not a life insurance policy is considered a marital asset depends on the state laws that control the policy and the type of insurance. In community property states, a life insurance policy may be considered a marital asset if the premiums were paid with income earned during the marriage.

Whole life insurance policies accrue value as the insured pays premiums and are almost always considered a marital asset. In the case of a divorce, the value of the policy is subject to the property settlement agreement. The proceeds may be divided according to the agreement, or the policy may be left intact, and the portion the non-insured spouse is entitled to may be paid out in another way.

In the event of the policyholder's death, the proceeds of a whole life insurance policy are prorated according to the percentage of premiums paid with community money. For example, if a spouse purchased a whole life policy two years before marriage and paid the premiums with their own money, then continued to pay the premiums during the marriage with community income, the surviving spouse would be entitled to half of one-third of the death benefit payout.

In summary, whole life insurance is typically considered a marital asset, and in the case of divorce or death, the proceeds are divided according to the percentage of premiums paid with community funds.

Term life insurance death benefits as a marital asset

Term life insurance death benefits can be considered a marital asset depending on the state laws that control the policy. In community property states, term life insurance death benefits are considered a marital asset if the premiums were paid with income earned during the marriage.

In these states, the policyholder's spouse is automatically considered the beneficiary and is entitled to 50% of the death benefit. The other 50% would go to the named beneficiary. This is because, in community property states, spouses equally own any income earned during the marriage and any property bought with that money.

The nine community property states in the US are Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin. Alaska and Tennessee are considered "opt-in states", where spouses can decide to opt in and participate in the state's community property laws.

It's important to note that the characterization of a term insurance policy depends on the source of funding for the final term of the policy. When the final premium is paid solely with community property, the proceeds of the policy are community property. On the other hand, when the separate estate pays for the final premium without help from the community, the proceeds are considered a separate asset.

Revocation-upon-divorce statutes

In the US, more than 40 states have some form of "revocation-upon-divorce" statute that impacts beneficiaries listed on insurance policies, trusts, wills, and other financial documents. These statutes are intended to protect individuals from accidentally forgetting to remove their former spouse as a beneficiary after dealing with the emotional trauma of divorce.

The laws vary by state, but in 26 states, a spouse is automatically revoked as a beneficiary in the event of a divorce. These states assume that the deceased individual intended to remove their ex-spouse from the documents but neglected to do so. If the insured person dies and the ex-spouse is still named as the beneficiary, the proceeds typically go to the secondary beneficiary or the deceased's estate.

However, it's important to note that these revocation-upon-divorce statutes do not apply to certain types of accounts, such as 401(k) plans, pensions, and other federal plans governed by the Employee Retirement Income Security Act (ERISA). In these cases, pre-divorce beneficiary designations remain in place until explicitly changed by the account owner.

To ensure that your wishes are carried out, it is recommended to review and update beneficiary designations after significant life events, including marriage, divorce, the birth of children, retirement, or the death of a loved one.

Additionally, in community property states, the rules regarding life insurance proceeds can be more complex. In these states, both spouses are considered equal owners of all income earned during the marriage and any property purchased with that money, including life insurance policies. This means that, in the event of the policyholder's death, the spouse typically receives 50% of the death benefit, even if they are not named as the beneficiary.

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