In most divorces, a noncustodial parent will be required to maintain a life insurance policy for the benefit of any minor children. This is because the noncustodial parent will probably be paying child support. If he dies, the children still need that financial support. This is why life insurance is often required. However, many policies do not permit a minor child to receive life insurance funds until age 18. Therefore, there are steps that can be taken to ensure that minor children with divorced parents are financially protected in the event of the death of the noncustodial parent.
Updating Beneficiaries After Divorce
It is common for a husband and wife to name each other as beneficiaries of their life insurance policies during the marriage. However, once the couple divorces, each party may wish to change this beneficiary designation, provided that the divorce agreement does not require them to keep their ex-spouse as the beneficiary. Frequently, a parent will wish to name the children as beneficiaries of a life insurance policy after a divorce. In fact, many divorce agreements require a noncustodial parent to have life insurance to benefit the children. For this reason, it is important to understand your current life insurance policies and to update them as needed following a divorce. Otherwise, someone may end up receiving a financial benefit you did not intend.
Naming Minors as Beneficiaries
If you name your children as the beneficiaries to your life insurance policy and you die before your children are 18, your insurance company will not release the insurance proceeds to your children. Instead, the probate court that handles your estate would get involved and would designate a trustee or custodian to oversee the funds until your children are adults. Usually, the court will name your ex-spouse for this purpose. Your ex-spouse would be permitted to spend the proceeds for the benefit of the children. When the children turn 18 (or in some states, 21), the money will be turned over to them.
Naming a Custodian for Life Insurance
Because life insurance companies will not pay benefits directly to minor children, you may want to name a custodian for your life insurance policy instead of simply listing your children as beneficiaries. This is particularly important if your children are very young or if you are in poor health. Naming a custodian is relatively simple and requires you to complete some specific forms with your life insurance company. The custodian can be your ex-spouse. However, you may also choose someone else, such as your children's aunt or uncle or a close friend. The custodian would receive the proceeds from your life insurance policy upon your death and would be expected to use those funds solely for your children's benefit. Since the courts will select a custodian for your life insurance in the event that you do not do so, it makes more sense to simply determine a custodian at the time of your divorce rather than allowing complications to arise in the event of your death.
Life Insurance Trust
Another option for how to protect your children financially in the event of your death is to establish a trust and name the trust as beneficiary of your life insurance policy. Upon your death, your life insurance gets paid directly to the trust instead of to an actual person. This is a useful option because you are able to designate exactly what happens to the money in the trust. For example, you can arrange it so that a certain amount of money is paid to your child each year. You can also designate that some of the trust money is used for private school tuition. Along with a trust, you must name a trustee which is the person who will disperse the money according to your wishes. The trustee can be your ex-spouse or any other person you feel you can rely upon to handle the funds appropriately. Using a trust provides you with the most options but it is also the most difficult way to protect your children. Therefore, it requires the assistance of a knowledgeable estate attorney or financial planner.
Naming Your Estate as Beneficiary
It is possible to name your estate as the beneficiary of your life insurance policy. However, this is not a very practical choice when trying to protect your children financially. With custodial life insurance plans or life insurance trusts, the money is usually payable to the designated recipient within a week or so of your death. This helps ensure that your children are not disrupted for a significant period of time. On the other hand, if your estate is the beneficiary, the funds from your life insurance oftentimes get tied up in probate court along with the rest of your assets. When the probate court determines how to settle your debts, there is a risk of losing some or all of the funds from your life insurance. Also, it can take months or even a year or more for the money to eventually be released to the correct person. For this reason, estate planners may recommend that you do not name your estate as the beneficiary of your life insurance policy.
Naming Beneficiaries for Other Policies
The most common beneficiary adjustment that occurs during a divorce is the beneficiary of your life insurance policy. However, it is important to keep in mind that other accounts or policies may require you to change your beneficiary when you divorce. For example, your spouse is likely the beneficiary of your 401(k). After a divorce, you should contact your employer to change this beneficiary. Also, after a divorce you may need to adjust the coverage on your health insurance policies, since most companies do not allow you to insure your ex-spouse. Finally, your homeowner's insurance or car insurance may need to be adjusted depending on the division of property in your divorce agreement.