Protecting Your Family's Safety Net: How to Set Up Your Life Insurance Policy The Right Way

A comprehensive Life & Legacy Plan is about creating a strategy that lets you enjoy your life to the fullest while protecting your loved ones' future when you can no longer be there. It might seem like life insurance is an easy way to help secure your loved ones’ future – and it is – but your policy must be set up in the right way to have the best possible impact on your family.

The way you set up your beneficiary designations on your insurance policy can significantly impact its effectiveness, how it’s used, and who controls it after you die. In this blog, we'll explore how not to name beneficiaries on your life insurance and how to name beneficiaries to ensure your loved ones have the funds they need to thrive when something happens to you. 

DO NOT Name a Minor As The Beneficiary of Your Life Insurance Policy  

Naming your child or grandchild as a direct (or even backup)  beneficiary of your life insurance policy may seem like a natural choice, but if you do that you’re guaranteeing a bad outcome for the people you love.

First of all, if a minor child is the beneficiary of a life insurance policy, it guarantees a court process called “guardianship” or “conservatorship” must occur to name a legal guardian or conservator to manage the assets for your minor beneficiary until they turn 18. Then, at 18, your minor child who is just barely an adult receives everything left in the account, outright, unprotected, with no oversight or guidance. This is the worst possible outcome for everyone involved. 

If you are buying life insurance, you are doing it to make the life of your loved one’s better. We often say “insurance says I love you.” But naming a minor child as a beneficiary doesn’t say I love you; it says that you didn’t take the time to set your life insurance up the right way. You might think the answer is to name a trusted family member or friend as the beneficiary of your life insurance, hoping they’ll use the funds for your kids, but don’t do that! 

If you name another adult as the beneficiary for a life insurance policy intended for your kids, your kids will have no legal right to the money – which means the adult you named as beneficiary can use the money however they want and don’t have to use it for your kids at all! 

So what’s the solution? Keep reading until the end to find out what to do instead.

DO NOT Name Adult Beneficiaries Directly or They Risk Losing The Money Entirely

Direct payouts to adult beneficiaries may seem straightforward, but can have unintended consequences. Life circumstances change, and the lump sum received from a life insurance policy might be at risk if not managed properly. By avoiding direct payouts, you can ensure that the financial security provided by the insurance is preserved for the long term.

One key concern is the potential for beneficiaries to hastily misuse or exhaust the funds. A sudden windfall might lead to imprudent spending, leaving your loved ones without the financial support you intended. Additionally, if your beneficiaries are not financially savvy, they may struggle to manage a lump sum effectively, meaning the policy might lose money over time.

Even if an adult beneficiary is financially responsible and savvy – or knows enough to speak to a financial advisor – life events can put the funds at risk. Because the life insurance proceeds now belong entirely to your beneficiaries in this case, the proceeds of the policy are now completely vulnerable to any future divorces or lawsuits that your beneficiary may go through in the future.

That means that if your beneficiary is divorced, sued, or accumulates debt, all the money they received from your insurance policy could be lost.

Plan For Your Life Insurance The Right Way: Use a Trust 

A Trust is an agreement you make with a person or an institution  you choose. This person is called your Trustee, and their directive is to manage the assets you put into or leave to your Trust, according to the rules you create. 

Instead of naming minors or adult loved ones as the direct beneficiaries of your life insurance, name your Trust as the beneficiary of your policy instead. By doing this, your loved ones will still receive the funds you intend for them while maintaining control over how the funds are managed and distributed. This ensures that your wishes for your assets and your loved ones are carried out even after you're gone. 

How does it work?

A well-drafted Trust allows you to specify conditions for distributing the Trust funds, ensuring that the funds are used for intended purposes such as your beneficiaries’ education, homeownership, or other specific needs. Distributions from the Trust can also depend on the ages and circumstances of each beneficiary. This level of control can prevent the misuse of funds and promote responsible financial behavior for everyone involved. Plus, assets held in a Trust bypass the probate process, ensuring a more efficient and timely distribution of funds to your beneficiaries. This can be crucial in providing immediate financial support to your loved ones when they need it the most. 

And while you can choose to have your Trustee distribute life insurance proceeds directly out to your beneficiaries outright, at specific ages and stages, you may want to provide even more protection for your beneficiaries. One of the considerations we’ll help you make is whether to retain the assets in trust, giving your beneficiaries control over the Trust assets, but in a manner that keeps the inherited life insurance protected from lawsuits, future divorces, and creditors.

Let Us Set Up Your Entire Plan In The Best Way Possible

Setting up your life insurance policy with the right beneficiaries involves careful consideration of your unique family dynamics, financial goals, and long-term objectives while being proactive to avoid future issues. By doing so, you maximize the benefits of your life insurance to provide a lasting legacy of financial security and support for your loved ones. 

But planning for your life insurance is only one step in creating a plan for everything you own and everyone you love today and in the future. As your Personal Family Lawyer, my mission is to guide you to create a comprehensive estate plan, which I call a Life & Legacy Plan, that ensures your wishes are fulfilled and your family's future is protected no matter what the future holds.

Give us a call at 615-219-9710 to learn more.

This article is a service of Ryan Rolston Peacock, a Personal Family Lawyer® Firm. We don’t just draft documents; we ensure you make informed and empowered decisions about life and death, for yourself and the people you love. That's why we offer a Life & Legacy Planning Session™, during which you will get more financially organized than you’ve ever been before and make all the best choices for the people you love. You can begin by calling our office today to schedule a Life & Legacy Planning Session™.

The content is sourced from Personal Family Lawyer® for use by Personal Family Lawyer® firms, a source believed to be providing accurate information. This material was created for educational and informational purposes only and is not intended as ERISA, tax, legal, or investment advice. If you are seeking legal advice specific to your needs, such advice services must be obtained on your own separate from this educational material.