Coping with the death of a loved one can be an emotionally taxing experience. While finances may be the last thing on your mind, understanding the basics of estates, trusts, and life insurance can help to navigate these complex processes when the time comes.

Estates

A deceased individual’s estate is the sum total of his or her assets, i.e. all the property that he or she owned at death. This can take the form of real estate, bank accounts, automobiles, stocks, insurance policies, or virtually anything else of financial value.

Estates are distributed through a process called probate. Probate frequently involves the use of the deceased’s will. The executor, often a trusted friend or family member of the deceased, oversees the distribution process according to the terms of the will. The executor acts as a sort of middleman in between the deceased person and the  beneficiaries, often spouses, children, or relatives of the deceased, who are each entitled to a portion of the estate.

In the case of high-value estates, probate may become a heavily litigated process, with multiple parties claiming to be entitled to the same assets. It’s also important to note that the probate court process varies on a state-by-state basis. For instance, many states allow people with few or no assets to avoid probate (see Cal Prob Code § 13100).

Trusts

A trust is an independent financial entity created when an individual (the “grantor”) puts money or assets aside to be managed, invested, and distributed by a trustee. Trusts may assign an individual or an asset management company (AMC) as trustee, and they may afford varying levels of discretion to the trustee. Some trusts specify that the trustee can distribute funds “as needed,” while others specify restricted uses or amounts at specific time intervals (see the “Spendthrift trusts” section of our previous blog post).

Because trusts are not technically “owned” by anyone, they are not counted as part of the grantor’s estate. In high-value estates (only those with values over $11.18 million as of recent tax changes), placing assets into a trust can help to minimize federal estate taxes (see our previous blog post). Trusts are also typically distributed at the discretion of the trustee, avoiding the probate process altogether.

Life insurance

In most cases, life insurance is not treated as part of the deceased’s estate or as a form of trust, but as a separate fund altogether (see our previous blog posts on probate and trusts for exceptions). With life insurance policies, the beneficiary must file a claim with the insurance company before being paid the death benefit. This typically involves 3 steps (see our previous blog post):

• Step 1: Gather all relevant information about the policy by looking through the deceased’s records, bank statements, taxes, etc.
• Step 2: Contact the insurance company and let them know of the insured’s death
• Step 3: Fill out claim forms and send a certified copy of the insured’s death certificate

After completing these steps, you should be paid within 2 months. However, life insurance companies will frequently delay or deny legitimate claims in order to maximize their own profits. If you believe your claim has been unlawfully delayed or denied, don’t hesitate to contact an experienced life insurance lawyer.

A trust is a financial entity created when an individual puts money or assets aside to be managed, invested, and distributed by a trustee. Trusts may assign an individual or an asset management company (AMC) as trustee, to which the terms of the trust may afford varying levels of discretion. Some trusts specify that the trustee can distribute funds “as needed,” while others specify restricted uses or amounts at specific time intervals (see the “Spendthrift trusts” section of our previous blog post).

Life insurance policies are typically “owned” by the policyholder, i.e. the person who applies for and pays premiums on the policy. Life insurance trusts are created when ownership of a policy is transferred from the policyholder to a trustee. Upon the insured’s death, the death benefit will be paid to the trustee and distributed to the beneficiary or beneficiaries by the trustee.

Why use a life insurance trust?

Although life insurance trusts do not typically offer advantages over personally-owned policies to the average consumer, there are a few situations in which creating a life insurance trust may be prudent.

Estate taxes

Although recent tax changes more than doubled the exemption threshold for federal estate taxes, estates worth over $11.18 million are still subject to a 40% tax rate. If the death benefit is transferred to the insured’s estate following his or her death (see our previous blog post), it may be subject to estate taxes. However, if the policy was owned by a trustee as part of a trust, it will escape taxation on the insured’s estate since it is not technically “owned” by the insured.

Control over distribution of death benefit

In a typical life insurance policy, the death benefit is transferred from the insurance company directly to the beneficiary or beneficiaries upon the insured’s death. However, life insurance trusts may afford full discretion over distribution of the death benefit to a family member or close friend as trustee, allowing them to control who gets what and when. This can be useful when children or financially irresponsible adults, who could not be trusted with the full death benefit, are named as beneficiaries to the trust. Additionally, since the trustee (rather than the beneficiary) controls the death benefit, it is protected from the beneficiary’s creditors.

Term life insurance policies are temporary and provide coverage for a specified period of time. Term life policies are simple: the policyholder pays regular premiums in exchange for a death benefit in the event of the insured’s death. There is no accumulated cash value, and premiums stay constant throughout the duration of the term.

If the expired term life policy included a conversion provision or rider, the policyholder can choose to convert the temporary term life policy into a whole life policy. In contrast to term life policies, which provide coverage up until the end of the term, whole life policies provide coverage for the entirety of the insured’s life or until a designated age such as 65, 75, or 100 years old. Whole life policies also accrue permanent cash value in addition to the death benefit. Since they are more valuable than term life policies, whole life policies often require substantially higher premiums.

Converting a term life policy to a whole life policy is often a simple process, and it can be beneficial on multiple levels. Conversion riders rarely require that the insured undergo a new medical exam or complete a new health questionnaire, which can be valuable if the insured developed a serious medical condition during the time that he or she was covered by the term life policy. Additionally, whole life policies specify future premium rates that are not subject to change. Even if the insured develops a terminal illness, he or she will still only need to pay the premiums listed on the policy.

However, conversion is not always the best option. Factors such as age, financial security, and health are all relevant and should be considered before converting to a whole life policy. For instance, if you are in good health and interested in taking out whole life insurance, it might be best to apply for a new policy altogether. Elderly individuals who only need to secure coverage for the next five or ten years may find that term life better meets their needs. Still, if you are happy with your current term life insurance and wish to make it permanent, conversion can be a worthwhile option.

When taking out a life insurance policy, the policyholder must name one or more “beneficiaries” who will receive the death benefit if the insured passes away while covered by the policy. Policyholders have multiple options for choosing beneficiaries:

Primary and contingent beneficiaries

The “primary beneficiary” on a life insurance policy is the first in line to receive the death benefit. A “contingent beneficiary” or “secondary beneficiary” may receive the death benefit in place of the primary beneficiary if specific, predetermined provisions are satisfied. In most cases, a contingent beneficiary will only receive the death benefit if the primary beneficiary is deceased or unreachable. For policyholders, listing a contingent or secondary beneficiary can act as a safeguard in case something happens to the primary beneficiary (see our previous blog post).

Multiple beneficiaries

If the policyholder would like to name multiple beneficiaries to a single policy, he or she can specify any number of “co-beneficiaries.” When multiple beneficiaries are listed, insurance companies can split the same death benefit amongst them. Policyholders may specify who receives what percentage of the death benefit, or they may request that it be distributed evenly.

It is possible to designate multiple primary co-beneficiaries, as well as multiple contingent co-beneficiaries. For policies with multiple primary beneficiaries, the contingent beneficiary or beneficiaries will likely only receive the death benefit if none of the primary beneficiaries are reachable. If this happens to be the case, each contingent beneficiary will receive their designated portion of the death benefit.

However, legal debates frequently arise when multiple parties claim to be the validly named beneficiary to a life insurance policy (see our previous blog post). If you were the beneficiary to a life insurance policy yet your claim was unlawfully denied, don’t hesitate to contact an experienced life insurance lawyer.

You’re Not Alone in Getting a Runaround…