Divorce can be an unpleasant life event. The end of a marriage often leads confrontation and tension, which complicates the resolution of a divorce. Typically, conflicts arise in the distribution of assets and businesses, and there can also be complications if there is life insurance that affects both spouses. If that is the case, it is wise to know what to do with your policy after the divorce.
In this article, we explain what happens to life insurance when a couple gets divorced. We will lay out the most important things to keep in mind and provide essential advice for adequately resolving situations related to life insurance and divorce. Read on to find out more.
Life Insurance and Divorce: Table of Contents
Life Insurance During a Divorce: Protect Your Children
One of the most common reasons for purchasing life insurance is to protect your family in case either you or your partner die. But in some cases, a partnership can end before that point, resulting in a divorce. At that time, life insurance can continue to protect your descendants, but it is likely that you and your now ex-spouse will want to make changes to your coverage. And more often than not, reviewing the insurance and the changes required for your new family landscape are overlooked.
You should keep in mind that life insurance can be considered a financial asset, and as such, the judge will take it into account when determining the divorce agreement. The most likely scenario is that the policy ends up tied to the agreement and the decree that formalized it.
In general, the presence of children is the real game-changer, as well as any court ruling that stipulates a certain amount of support for them or even for one of the spouses in the divorce agreement. For example, a judge can rule that the ex-husband must pay a set amount to support his children, also known as child support, or his ex-wife (known as alimony) in the event that she has primary custody of the children, or to pay the mortgage of the house where the children live. In cases where one of the spouses is legally required to provide this financial support, the judge can also require him or her to have life insurance in order to guarantee that the aid will still be paid out when he dies. The spouse can designate an existing life insurance for this purpose and name his or her children or ex-spouse as the beneficiaries. However, the judge can also require that a new policy be purchased if the existing one is deemed inadequate.
In any case, a responsible parent will purchase insurance with sufficiently broad coverage to guarantee the wellbeing of his or her children in case they die. Your relationship with your ex should not be a factor here. Even if you consider the other person to be irresponsible or unreliable, you must assume the responsibility for paying premiums all the same and guarantee that the policy is in effect.
In some instances, one of the spouses will not want to take on the responsibility of the children and the entire weight of their care will fall on the other partner. In that case, life insurance becomes indispensable to ensure the future of the children in the event of the death of the parent responsible for their care. Since a divorce can also lead to significant financial complications, your first resort can be temporary or term life insurance. These policies are cheaper because they have a set duration, so the risks assumed by the insurer are low. With term insurance, you can, for example, cover your children’s early years or their university careers. After that, you can let the insurance expire or, if your financial situation permits, convert it into permanent insurance—more expensive, but with better coverage and options.
In less complicated divorces, the now-separated spouses can come to a friendly agreement to pay for a broad life insurance policy with good coverage, probably a permanent life insurance policy. With this agreement, they can guarantee that their descendants will receive a payout that will help them move forward after the loss of either spouse. The ex-spouses can even come to an agreement to build a solid inheritance that utilizes the insurance policy intelligently.
Child-Free Divorce: What to Do with Your Life Insurance
If the couple getting divorced does not have children, things may be easier. In the case of life insurance, the most vital step is to determine who is the policy holder, who is the insured, and who is the beneficiary (or beneficiaries).
In this situation, several scenarios may arise:
- Normal insurance. If you have a conventional insurance policy, whether term or permanent, the most likely situation is that one of the spouses is the policy holder and also factors in as an insured party, while the other spouse is the beneficiary, possibly with other descendants or other people. In this case, the holder can decide whether to keep his or her ex-spouse as a beneficiary or take their ex-partner off the list. The same occurs when the holder of the policy has designated the other partner as the insured party: that person decides whether to continue or stop insurance payments.
- Crosswise coverage. It can sometimes be the case that each spouse has their own insurance policy and they are each other's insured parties and beneficiaries. While this situation has several fiscal advantages, it can also become complicated, because each spouse is paying the insurance of the other. It is wise to treat these situations with care in order not to lose coverage and leave third parties unprotected. One easy solution is to come to an agreement for one party to transfer ownership to the other, so that each ex-spouse is holder and insured under the same policy.
- Joint insurance. In joint life insurance, both people are protected by the same policy. This is a cost-effective solution that allows coverage of both spouses at a cheaper price than that of purchasing two policies. In exchange, the insurance company establishes conditions, such as whether the payout is made at the death of the first or second insured. If your insurance is of this type, an agreement can be made between both ex-spouses to keep it and guarantee that the payout is given to whomever both parties decide. Another solution is to transfer the policy to just one of the holders, in which case the other will be left without life insurance. And, finally, you can opt to cancel the insurance, which is a simple but drastic solution, because in the event that you both want a new life insurance policy, you would have to go through the insurance qualification process again, along with the difficulties this implies.
Advice on Organizing Your Insurance After the Divorce
Given the complications and stresses that arise during a divorce, many forget to put their life insurance in order, but it is crucial that you do so. In the case of a divorce, here are the steps you should follow:
- Review your policy. Make sure that the insurance is in effect, payment is up-to-date, and you are clear about who the policy belongs to and who is insured, as well as the future recipients of the death benefit. If you want to keep it, talk to your insurer, because you may be able to renegotiate the conditions: your financial situation has changed and it is possible that there are changes that could benefit you and even lower the cost of your policy. Reviewing your life insurance is always advisable, and even more so when facing a divorce.
- Review your divorce agreement. Make sure you know exactly what the judge ruled or what agreement was reached with regards to life insurance. It is possible that it is mandatory to maintain it in order to back your support payments.
- Negotiate the coverage period. If you are required to have insurance in order to guarantee that your children or ex-spouse receive their support, you should consider negotiating the length of time the insurance must be in effect. If it was agreed that the insurance would not be for life and should only last until the aid payments are no longer mandatory, you may be able to opt for a more cost-effective solution, such as term insurance.
- Designate new beneficiaries. After a divorce, it is very common for the insured person to remarry and fail to change the list of beneficiaries on their life insurance, among which the insured had likely designated his or her ex-spouse. If this is the case and the insured dies, his or her former partner will collect the payout. In order to avoid this, it is indispensable to review the policy beneficiaries. Remember that you can designate secondary, and even tertiary beneficiaries. And keep in mind that in some states, the law automatically disqualifies you as a beneficiary for your ex-spouse in cases of divorce.
- Divide up the cash value. As you know, permanent insurance generates cash value, money that can be utilized before dying that is the result of savings produced by ordinary or traditional, universal, variable, and universal-variable life insurance. The most typical scenario is that this money is considered a marital asset and is included in the list of assets to be divided. This way, the cash value will be divided in half and the insured party that retains the policy will only keep half of the savings.
This brief review of the potential situations that could arise during a divorce should help you understand that it is a delicate situation and must be handled wisely. Life insurance can play a central role in friendly resolution and, meanwhile, protect the future of other people you care about.