What happens to the benefits for a life insurance policy when the beneficiary is deceased?
When a policyholder passes away, his or her life insurance benefit is supposed to go to a predetermined beneficiary, often a spouse, family member, or close friend. But what happens when the beneficiary is also deceased, the designation is no longer valid, or if he or she dies while the claim is under review? Often, this situation can arise when the policyholder designates his or her spouse as primary beneficiary but divorces years later; in some states, the ex-spouse will be “automatically revoked” from the policy, after which the policyholder might fail to designate a new primary beneficiary in their place.
Beneficiary is deceased/out-of-date beneficiary
If the primary beneficiary of a death benefit is deceased/invalid, there are several possible outcomes based on the policy’s details. If the primary beneficiary of a policy is deceased, invalid, or cannot be reached, the death benefit will go to a named secondary beneficiary or contingent beneficiary. If there are multiple “co-beneficiaries” on a policy and one of them has passed away, the death benefit will be split among the remaining co-beneficiaries.
This raises the question: What if both the primary and secondary beneficiary on a policy are deceased/invalid? Or what if all the policy’s co-beneficiaries have passed away? In this case, it passes on to the insured’s estate, i.e. his or her total assets, unless the terms of the policy state otherwise. This may seem fine at first glance; the estate is usually transferred to the deceased’s next of kin by default.
However, this may be disadvantageous on several levels. If the insured was in debt at the time of death, his or her estate will be used to pay off any outstanding debts and can be subject to estate taxes. Conversely, if a beneficiary receives the insured’s death benefit directly from the insurance company, the beneficiary will receive the full amount without taxation and regardless of the insured’s debts. Many states exempt a specified amount of life insurance death benefits (e.g. up to $50,000) from being subject to debt/tax collection even after being transferred to the policyholder’s estate, but this depends on the laws in your state.
Beneficiary dies before claim is approved
If a policy’s primary beneficiary is alive at the time of the policyholder’s death but dies before the claim is processed or paid, the death benefit will be transferred to the beneficiary’s estate, rather than the insured’s. This can lead to the same disadvantages as the above situation, such as the possibility of being absorbed into the beneficiary’s outstanding debts or being subject to estate taxes. Unlike with the policyholder’s estate, the aforementioned state-by-state exemptions from debt/tax collection do not apply once the benefit is transferred to the beneficiary’s assets.
The big takeaway is that it is imperative to keep beneficiary designations as up-to-date as possible. Life insurance is usually advertised as a “safe” investment, free from taxes and unforeseen deductions; however, if a policyholder’s beneficiary is deceased or cannot be located, the death benefit may be treated the same as any other asset and consequently be subject to debt and tax collection. Designating a secondary beneficiary (or contingent beneficiary) can help provide an effective safeguard in case something happens to the primary beneficiary.
Additionally, these sorts of situations can spur legal debates over who is rightfully entitled to a policy’s death benefit. If you believe your life insurance claim has been wrongfully denied, it is prudent to get the advice of a trusted legal authority.