Your Options for Choosing Life Insurance Beneficiaries

Understanding your options can help you to get it just right

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No one likes to think about dying, but a life insurance policy can be a critical tool of transition for your loved ones. It's important to understand what a beneficiary is and how your life insurance policy works so you can come up with the best strategy to protect them.

Choosing a beneficiary for your policy can be as challenging as figuring out exactly what kind of life insurance to buy. No one can tell you who your beneficiary should be. You'll want to consider numerous factors.

Primary vs. Contingent Beneficiaries

The beneficiary of your life insurance policy is the individual who will receive the benefit in the event of your death. You're not limited to just one person. A policy can have more than one beneficiary. 

A policy's primary beneficiary is the first person who will receive the benefits of that policy when you die. Others, called contingent beneficiaries, only receive the benefits if the primary beneficiary predeceases you so she's not available to accept the money. Contingent beneficiaries more or less wait in line in case this should happen. A contingent beneficiary is sometimes called a secondary beneficiary for this reason.

As an example, let's say that Elizabeth and Doug are getting married and they buy life insurance. They name each other as primary beneficiaries, then they realize that they travel a lot, always together. They decide to choose contingent beneficiaries in the event that they die together in a common event.

Elizabeth chooses her sister, and Doug chooses his brother. They strategically split the contingent beneficiary to give each 50 percent of the benefits. This ensures that each sibling will receive a share—but only if Elizabeth and Doug die together.

Naming More Than One Beneficiary

It's possible to name more than one primary or contingent beneficiary by assigning a percentage of the life insurance benefit among two or more people on your insurance application.

Let's say you're remarried with two kids from your former marriage. You own a home with your new spouse. You love her to death, but you also accept that she's not the best at managing money.

You might want to ensure that she has enough to live well but that your children will also receive their appropriate share of the life insurance benefits. You might decide to leave 30 percent of your life insurance to your spouse as a primary beneficiary and 70 percent to your children. This gives your spouse enough money to cover all the house costs and your children will have enough for their college funds. 

Revocable vs. Irrevocable Beneficiaries

A beneficiary can also be revocable or irrevocable. You can't later change your mind and remove an irrevocable beneficiary, naming someone else instead—at least not without the consent of the original beneficiary. Naming a beneficiary as revocable relieves you of this restriction. You retain the right to unilaterally change things up at any time.

Here's another example: Mary is single, and she decides to buy a universal life insurance policy while she's still young to maximize her savings and secure cheaper life insurance. She could pay off her whole life insurance by the time she's 40.

She has a problem, however. She doesn't yet have any dependents. She decides to name her mother for half the life insurance benefits and her best friend for the other half. She makes these beneficiary designations revocable so she can change her decision when and if her situation changes in life.

Naming Your Beneficiary

The three most important factors when you sign up for a life insurance policy are passing the life insurance medical exam, selecting your amount of coverage, and choosing the beneficiary or beneficiaries.

You'll have the opportunity to identify the beneficiary or beneficiaries as part of your life insurance paperwork. Each beneficiary should be identified as clearly as possible, using her full name and her Social Security number and date of birth. Provide as much information as you can so your beneficiary can be located and properly identified at the time of your death.

Considerations When Your Beneficiary Is Disabled or a Minor

Minors cannot legally own or manage their own money. You'll have to take some additional steps to make sure someone can manage the money for him until he reaches the age of majority if you name a minor as the beneficiary of your life insurance policy. In fact, most insurance companies will not release money to a minor, but only to his conservator or guardian.

You can name a guardian using a Uniform Transfers to Minors Act form, but consult with a legal professional to make sure you get it right. The court will then have to approve the named guardian before benefits can be paid.

Alternatively, you can name your estate or your living trust as beneficiary with instructions in either your last will and testament or your trust formation documents that the insurance proceeds are to be spent for the benefit of the child or children. This, too, often requires the assistance of an attorney. It's important to keep in mind that the benefits might be vulnerable to claims by your creditors if you name your estate.

Special trusts can be formed for disabled individuals as well, so they can receive the insurance benefits without losing government assistance, which is often needs-based.

It Can All Be a Challenge

Although some cases of naming a beneficiary are relatively simple, you should consider naming a contingent beneficiary or a secondary beneficiary just in case. Review your beneficiary choices throughout your life as your situation changes, such as due to divorce or the birth of a child.