What Is a Life Insurance Beneficiary?

We all want the best for our loved ones. Life insurance can help provide financial support when we're no longer here. It ensures that your beneficiary is taken care of if something happens to you, covering expenses like debt repayment and living costs. By choosing a beneficiary, you secure their financial future. Here are answers to common questions about selecting a beneficiary for your life insurance policy.

What Is a Beneficiary?

In general terms, a beneficiary is usually a person or entity that receives money or other benefits as a result of something else. For example, residents of a town could be the beneficiaries of a new law that lowers their taxes. If someone is receiving money from a trust fund, they are the beneficiary of the fund. This term also is commonly used to name the person or entity who will inherit property or assets after the original owner passes away.

The heirs named in a will are the beneficiaries of the will. If you have a 401(k) or another type of retirement plan, it's likely that you'll be asked to name a beneficiary to inherit the money left in the account after your death.

What Is a Life Insurance Beneficiary?

A life insurance beneficiary is the person or entity you choose to receive the death benefit from your policy. The life insurance company will ask you to name a beneficiary and provide their contact information and Social Security or tax ID number, if you have it available. Putting down this extra information can help the life insurance company confirm the beneficiary's identity so they can pay out the death benefit faster.

What Is a Contingent Beneficiary for Life Insurance?

You also can have more than one beneficiary for your policy. There are generally two types of beneficiaries: primary and contingent. The primary beneficiary is the person or entity that you designate to receive the payout in the event of your death. A contingent beneficiary is the person or entity that receives the death benefit if the primary beneficiary is unable to receive the money (for example, if the primary beneficiary dies before you do). You can name more than one primary beneficiary or contingent beneficiary, and you can assign the percentage of the death benefit they each will receive when you die.

Depending on the situation, the division of the death benefit also will depend on whether it's per capita, which means the death benefit can only go to the named beneficiaries in equal shares, or per stirpes, which means that if any of your named beneficiaries have already died at the time of your death, their share of the death benefit will pass to their descendants.

Since you have the option to choose both a primary and contingent beneficiary (and more than one of each), naming a contingent beneficiary may be a good move. That way, in the event of a major accident, such as if you and your original beneficiary die in the same car crash, the insurance company would know who to pay as a backup.

What Is a Revocable Beneficiary?

As you think about naming primary and contingent beneficiaries, you also might want to consider the option of naming a revocable beneficiary for your policy. This means that as the policy owner, you retain the power to change your beneficiary at any time (and you don't have to notify your previous beneficiary before doing so).

Who Can Be a Life Insurance Beneficiary?

There is a good deal of flexibility when choosing your life insurance beneficiary. You can pick any adult person, such as your spouse or partner, another family member, one or more business partners or the guardian you picked for your children. You can also pick charities, businesses and other entities. If you have young children, another option is to set up a trust fund and name that as a beneficiary.

What Happens to Life Insurance with No Beneficiary?

If you don't name a beneficiary on your policy, the life insurance company would then pay the death benefit to your estate, which the state courts would distribute according to your will and the probate process. Not naming a beneficiary can delay the death benefit payout due to lengthy probate proceedings.

What Should You Consider When Naming a Life Insurance Beneficiary?

When you pass away, the beneficiary of your life insurance policy will receive the payout, which is also known as a death benefit. Therefore, choosing a beneficiary could be one of the most important decisions you make. A beneficiary could be an individual who is dependent on your income — or someone who would not be able to maintain their current lifestyle without your financial support. This could include your spouse, children or other loved ones who rely on you financially. A beneficiary also could be anyone you would like to give financial support to once you're gone.

You also could name more than one person as the beneficiary and choose to have the payout divided among those you choose. Or you could choose to give the payout to a trust, your estate or even an organization or charity that is important to you.

As you review possible candidates for the life insurance death benefit, think about who you want to receive the money. If it's your young children, you may want to be careful about simply naming another adult as the beneficiary, because then they would have control over the funds. Setting up a trust could help to ensure that the money goes to your children when they reach adulthood.

Who Can Change the Beneficiary on a Life Insurance Policy?

In most cases, the policy owner is the only person with the authority to change the beneficiary designation on a life insurance policy. However, if you are the policy owner and grant someone else a power of attorney, then that individual may have the right to change your beneficiary because you have given that person the authority to make financial, legal and/or medical decisions on your behalf. Remember that after the insured dies, no one can change the beneficiary on a life insurance policy.

How Do You Change a Beneficiary?

Consider reviewing your beneficiary decision on a regular basis. Keep in mind the beneficiary instructions on life insurance take precedent over your will. If, in the future, you want someone else to receive the death benefit but don't change the beneficiary, the insurance company would still pay the person you have listed originally as the beneficiary. Luckily, it's usually simple and quick to change your beneficiary by completing a form with your insurance company.

How Does a Beneficiary Make a Life Insurance Claim?

Now, let's examine life insurance payouts. The payout is paid to the beneficiary of a life insurance policy when the person insured under the policy passes away. However, the beneficiary of the policy will need to file a death claim with the insurance company first. This usually requires documentation, such as a death certificate.

Your insurance company will then have a window of time in which to review the claim. After this process is complete, your insurance company will pay the benefits of the policy. Filing the death claim as soon as possible could be vital to receiving the payout in a timely fashion.

You might be wondering if payouts work differently between life insurance policy types. Term life insurance offers coverage for a set period. However, if your policy expires before you die, there will be no payout for your beneficiaries. So, consider keeping track of your current life insurance coverage. On the other hand, whole life insurance and universal life insurance provide coverage through the earlier of your death or the policy maturity date, as long as you continue to pay premiums as required.

What Are Your Beneficiary Payout Options?

A life insurance beneficiary has the option to choose how they would like the payout to be distributed from the life insurance policy. These payout options are referred to as life insurance settlement options. Insurance companies have traditionally provided the funds as a one-time lump-sum payment. However, you could also choose to have the payout distributed in installments. Installment payments could allow you to set up a steady income stream that could last a number of years — depending on the size of the payments and how much life insurance coverage was in place.

Installments could be a great option if you have dependents who are young or still learning good money management skills. Rather than providing a large lump-sum payment, you could choose to have the coverage amount distributed to them slowly over time. Depending on your particular policy, you also might be able to use living benefits that could allow you to withdraw some of the value of your policy before you die.

Please note that this could incur interest or fees or reduced death benefit.

The Internal Revenue Service (IRS) tends to want its share of any money received. However, payouts from life insurance policies aren't generally included in gross income and won't need to be reported, according to the IRS.¹ Of course, there are exceptions. Your beneficiary may need to report interest, for example, as interest is considered taxable income.²

Summary of Life Insurance Beneficiary Rules

Here’s a quick summary of what to consider about beneficiaries:

• A life insurance beneficiary is the person, charity, trust fund, business or other legal entity that will receive the death benefit if you die while covered by a life insurance policy.
• Name both primary and contingent beneficiaries and assign the percentage of the death benefit they will each receive when you die. Also consider the option of naming a revocable beneficiary.
• If you name no beneficiary, your death benefit will go to your estate, which could involve a more time-consuming probate process and delay your payout.
• Consider who or what is most important to you in naming your beneficiaries, like helping to financially support loved ones after you die or leaving money to your favorite charity or organization.
• If you name young children as your beneficiaries, consider setting up a trust to help ensure that the money goes to them when they reach adulthood.
• Think about whether you want to give someone power of attorney, which would enable that person to change your beneficiary.
• Beneficiary instructions on life insurance policies take precedent over your will, so review your beneficiaries regularly and change them through your insurance company when needed.
• Consider the different life insurance settlement options (e.g., a lump sum or installment payments) before choosing the type of death benefit payout your beneficiaries will receive.
• Keep track of your life insurance coverage, especially if you have a term life policy, which only offers you temporary coverage for a set period of time. Consider whole or universal life for lifetime coverage to ensure your beneficiaries receive the life insurance proceeds and financial support they need.

There are many different factors you might want to consider when choosing a life insurance beneficiary and policy. An insurance professional could help you determine the right type of life insurance for your needs — which could help give you a sense of security in a sometimes uncertain world. In addition, meeting with a financial representative to discuss setting up your beneficiary can help you make sure the right person or entity gets the death benefit from your policy.

Sources

1. Types of Income You’re Taxed On & What Is Tax-Exempt. https://www.irs.com/en/what-is-taxable-income-2/.
2. Topic No. 403, Interest Received. https://www.irs.gov/taxtopics/tc403.