How Can Life Insurance Be Used In Estate Planning?

Life insurance is great tool for estate planning. However, there are nuances that sometimes get overlooked. WTOP’s recent article, “4 questions to ask to maximize your life insurance benefits” focuses on key questions that need to be asked about life insurance.

Assessing the Need Properly

The amount of life insurance you need for estate planning is unique to each person’s financial and family circumstances. Remember that life insurance death benefits are used for more than just replacing immediate income from the family breadwinners. They can also pay off mortgage and other debts, cover college tuition, create a retirement nest egg for a surviving spouse, fund a business transfer, or be an important estate planning tool for paying estate and other taxes.

Families of all kinds need life insurance, including non-nuclear families and single income families. In the event of divorce with future child and spousal support obligations, the divorce settlement agreement should say that the ex-spouse, as payor, must maintain a sufficient life insurance policy naming the payee spouse, as the recipient-beneficiary, to cover all future commitments in the event of a premature death. The payee should also be notified by the insurance company of any policy changes or lapses, because she (or he) may be depending on this money if something were to happen. Stay-at-home spouses and caregivers also need life insurance, because replacing their duties could incur many unexpected costs for the survivor.

Up-To-Date Beneficiaries

Here are some do’s and don’ts, when naming a beneficiary:

  1. DO designate named individuals or a trust to avoid probate on the death benefits of life insurance;

  2. DON’T designate your estate, because this will lead to proceeds becoming involved in probate and allow creditors to place claims against the estate;

  3. DON’T designate minors as beneficiaries, because assets will be paid outright to them as soon as they reach the age of majority in their state; and

  4. DON’T designate a special-needs adult or child directly, because this may disqualify them from government benefits.


Designating a trust as beneficiary for minor children, special-needs individuals, or a person with limited financial wherewithal lets you maintain control. Work with an estate attorney to establish the appropriate trust for your intended purpose. Remember however, if you’re the trust owner and the insured, the death benefit will be included in your gross estate for tax purposes. That means, for people with taxable estates who are buying life insurance for the purpose of having guaranteed liquid funds available to pay future estate taxes when they die, they will be getting taxed on the very life insurance proceeds they were counting on to pay taxes with in the first place. However, having life insurance owned by an irrevocable life insurance trust (ILIT) removes the death benefit proceeds from the insured’s estate (unless the three-year-look-back rule applies to policies issued before the ILIT is in place). Having life insurance owned by an ILIT may be particularly important in California in the coming years if Senate Bill 378 becomes law, which would impose a 40% tax on estates above $3.5 million, because life insurance proceeds won’t count towards that $3.5 million if owned by a properly drafted and maintained ILIT.

Policy Exclusions

Be aware of the following universal exclusions if they apply to your situation, as that may prevent your beneficiaries from receiving their intended death benefits:

  1. The contestability period is a predetermined time period (usually two years from the date of issuance) where an insurance company can contest any information you submitted, and even cancel coverage or deny a claim, if there were misstatements or omissions made on the life insurance application. If you die during the contestability period and it’s shown that you made misrepresentations on your application, your claim can be denied—even if the cause of death had nothing to do with the actual misrepresentation.

  2. Material misrepresentation is intentionally withholding material information or providing false information to the insurance company, that would’ve resulted in them not insuring you or insuring you under different terms. It extends during the entire policy term, because life insurance claims can be denied after the contestability period ends if fraud was committed to obtain the policy.

  3. A suicide clause is included in nearly all life insurance contracts. The company won’t pay the death benefit and return premiums if the insured commits suicide within the first two years of the policy.

Some exclusions that aren’t universal but may be in the fine print of your life insurance policy include: illegal activity/committing a crime, dangerous activities (like sky diving or car racing), alcohol and/or drug use, and an aviation exclusion for private plane travel.

Using life insurance in estate planning is a great tool to protect your loved ones. So remember to review your life insurance needs regularly, and to update beneficiaries (and potentially even ownership of the policy) as warranted by your personal situation.

Reference: WTOP (March 6, 2019) “4 questions to ask to maximize your life insurance benefits”

#PerCapita #Probate #IrrevocableLifeInsuranceTrustILIT #BeneficiaryDesignations #PerStirpes #LifeInsurance


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