What Is a Beneficiary and How Do I Choose One?

One of the reasons you might purchase a life insurance policy is to provide for your family if you pass away unexpectedly. Life insurance policies allow you to leave your family with financial support and security. When you buy a life insurance policy, you will get to choose a beneficiary. 

What Is a Beneficiary?

A beneficiary is someone who receives the monies from your life insurance policy when you die. A beneficiary doesn’t have to be a person, however. You can name an organization or board of trustees as beneficiaries. Either way, a life insurance beneficiary inherits the death benefit. For example, if your life insurance policy includes a $100,000 death benefit, and you named your spouse as your beneficiary, your spouse would receive $100,000 as the life insurance beneficiary

Some common beneficiaries include:

  • A spouse
  • A sibling
  • A child or all of your children
  • A Trust
  • Family friends
  • Business partners
  • A nonprofit organization
  • Your estate

Why You Need an Insurance Beneficiary

  • Peace of mind. You know exactly where your money is going and who it’s going to benefit. This will give you peace of mind about the future. 
  • Efficiency. Without an established beneficiary, your death benefit may have to go through probate. Probate is expensive and time-consuming. Choosing a life insurance beneficiary allows your death benefit to bypass probate. 
  • Clarity. Clarity is important. It can help to avoid potential family conflicts over specific assets and how to divide them. When you choose a life insurance beneficiary, you’re able to make your wishes clear and ensure that your death benefit goes to the people or organizations you want. 

Can You Have Multiple Beneficiaries? 

It’s very common to have multiple beneficiaries. Many people want to support their families, contribute to their desired charities or churches, and help their other loved ones. When this is the case, naming multiple beneficiaries can be the best way to provide for all of your loved ones. The key with multiple beneficiaries is to establish exactly how much, or what percentage, each beneficiary receives and who the contingent beneficiaries are. 

Types of Beneficiaries

There are two main types of beneficiaries for both wills and life insurance, and there are two ways that benefits can be disbursed to the beneficiaries.

Primary vs. Contingent Beneficiaries

A primary life insurance beneficiary is who you choose to receive your death benefit. A contingent beneficiary is like a backup beneficiary. If the primary beneficiary is deceased, the contingent beneficiary becomes the primary beneficiary.

There are two ways you can set up life insurance beneficiaries:

  • Per capita. This designation only applies if you have more than one beneficiary. If one of the named beneficiaries isn’t able to collect, their portion of the death benefit will be divided among the remainder of the named beneficiaries. 
  • Per stirpes. If you elect this designation for your beneficiaries, the money will pass to the children or other dependents of the deceased beneficiary. For example, if your brother was one of your beneficiaries, but he passed away shortly before you, your brother’s portion of the death benefit would pass to his children.

Revocable vs. Irrevocable Beneficiaries

You can also designate beneficiaries to be revocable or irrevocable. When you have revocable beneficiaries, you’re able to add and remove people or organizations from your list of beneficiaries without their permission. For example, you could remove a partner as a beneficiary if you no longer want to leave money to them. Or you could add a co-beneficiary without the permission of the other primary beneficiary. 

With an irrevocable beneficiary, it is not possible to remove them as the beneficiary on a life insurance policy without their permission. You also aren’t able to name additional beneficiaries without permission from an irrevocable beneficiary because this could change the benefits the irrevocable beneficiary would receive.

How to Choose a Beneficiary

The most important consideration when choosing a beneficiary is determining who depends on you financially. Most often, the people who depend on you financially are your immediate family members, like your spouse or children. In this situation, you may name your spouse as the primary beneficiary and then together decide on contingent beneficiaries. 

But your immediate family might not be the only ones who depend on you financially. If you help support your parents, you’ll want to consider how you can continue to support them. If you help pay for a family member’s college tuition or make regular contributions to a church or charity, you may also want to consider how you can continue to support these people and organizations. Once you’ve determined who or what you want to support financially, you’ll know who your beneficiaries should be.

After deciding on beneficiaries, you’ll want to establish how much each beneficiary will receive. It’s often better to make these designations using percentages rather than exact dollar amounts because assets, or a death benefit, can continue to grow in worth (or decrease) during your life. 

Who Should Not Be a Life Insurance Beneficiary?

Almost anyone or any organization can be a life insurance beneficiary, but there are some potential downsides to consider when choosing beneficiaries

  • Minor Children: Naming your minor children as beneficiaries can be a great way to make sure they’re provided for. But if the child or children are still under the age of majority (age 18 in most states), they won’t receive the money until they’re old enough. Until then, the death benefit will go to a court-appointed guardian. A big gap between the time you die and when your children actually receive the money may be a drawback. When choosing beneficiaries in such a case, you may wish to name your minor children’s guardian as the beneficiary or to name a trust as the beneficiary to ensure your minor children are provided for in the way you intend.
  • Pets: While you may love your pets like a child, they are not usually the best choice for life insurance beneficiaries. Instead, you might consider naming a caretaker or a trust set up for your pets as the beneficiary, so you can ensure that they’re taken care of after you’re gone.
  • Unrelated parties: Although you can leave your life insurance death benefit to nearly anyone you wish, if the beneficiary is unrelated to you, this could trigger income taxes on the death benefit. A life insurance death benefit is normally income tax-free when it goes to family beneficiaries or a business partner.

    Can Beneficiaries Be Denied the Death Benefit? 

    In the case of a life insurance death benefit, there are some situations where the beneficiaries might be denied the money: 

    • The policyholder didn’t make all of the premium payments for the policy and the policy was no longer inforce.
    • The insured knowingly lied about the information on the policy application and dies within the contestability period (usually the first two years of a policy).
    • The insured dies of suicide during the contestability period.
    • The beneficiary is criminally involved in the death of the insured.

    What to Expect as a Life Insurance Beneficiary

    Generally, life insurance claims are a simple process and are paid within a few days. If you’re named as someone’s beneficiary on a life insurance policy, what can you expect to occur after that person dies? 

    Here’s a high-level overview:

    1. If they have your contact information, the insurance company may contact you and explain what you’re going to receive. Or, you can file a claim with the insurance company to receive the benefit.
    2. Two popular options for how to receive a death benefit are a) as a lump sum or b) over time. The lump sum is usually the most popular because you receive all the money upfront, and you have the most control over how it’s spent. If you choose to receive payments over time, you receive interest with each installment payment as well.
    3. Whatever payment option you choose, know that it is permanent, and you won’t be able to switch later.
    4. Monies received by life insurance beneficiaries are usually income tax-free unless you receive interest in addition to the death benefit. In that case, you would need to pay taxes on the interest you earn. If you were not related to the insured, there may also be income taxes on the death benefit itself.

    Summary

    In summary, having your beneficiaries set up correctly is extremely important. When someone gets a new policy they will usually set up the beneficiaries the way they want them. But something many people fail to do is to make updates as life changes. We believe it’s important to periodically review and adjust beneficiaries if necessary, and we can help our clients make adjustments along the way. Schedule an appointment with us if you need to add, review, or update your life insurance beneficiaries.

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