How Does Life Insurance Work in a Divorce?

While every divorce is different, as are the life insurance needs of every divorcee, here are a few guidelines to keep in mind if you and your spouse have decided to go your separate ways.

Should You Change the Beneficiary of Your Policy?

First, let’s look at what a life insurance beneficiary is and the two different types of beneficiaries.

A beneficiary is someone who receives the death benefit upon the insured’s death. The life insurance policyholder can name whosoever they wish as a beneficiary, even a pet. A life insurance policy can have multiple beneficiaries, in which case the policyholder must state how they want the proceeds to be distributed after the insured’s death.

Life insurance beneficiaries can be either revocable or irrevocable. A revocable beneficiary has no guaranteed rights when it comes to receiving the life insurance policy’s death benefit. In simpler terms, the policyholder does not need the consent of a revocable beneficiary to remove their name from the life insurance policy or add new beneficiaries.

An irrevocable beneficiary, however, enjoys certain guaranteed rights to an insurance policy’s payout. This means the policyholder needs the consent of an irrevocable beneficiary to make changes to who receives the death benefit.

Most married people name their spouse as the beneficiary on their life insurance policy so that were they to die unexpectedly, their partner will have the money to pay off any shared debts (like a mortgage) and raise any kids.

If you have listed your spouse as the beneficiary, you may want to review that after your separation. However, a divorce does not automatically mean you have to alter your policy’s beneficiaries. It all depends on what you, the insurance policyholder, want.

Changing beneficiaries on your insurance policy is simple and easy. You can do it online, over the phone or by mailing in the beneficiary change form. Only the policyholder can update or change a life insurance policy’s beneficiary. Though in the case of an irrevocable beneficiary, the policyholder would need their consent to update, add, or remove beneficiaries.

Can you stay as a beneficiary on your ex-spouse’s policy?

Yes, you can. But unless you are named as an irrevocable beneficiary or gain the ownership of the life insurance policy following your divorce settlement, it is entirely up to your ex-partner whether you receive the policy’s benefits after their death or not. That is because only one person can change or cancel a policy — the policyholder.

Can you remove your ex-spouse as the beneficiary?

Yes, you can, but things get a little complicated when an irrevocable beneficiary is present. If your spouse is listed as a revocable beneficiary, you can remove them by simply informing the insurance company about your wish. But if your spouse is an irrevocable beneficiary, you will need their consent to make any such changes.

Can you name your child as a beneficiary of your policy?  

After the court signs your divorce decree, you may want to name your child as the heritor in place of your ex-spouse. But the question is — should you?

It all depends on whether or not your child is an adult. If they are, there will be no complications. Upon your death, the proceeds of your life insurance policy will go directly to them. But if you pass away before your child reaches the age of maturity, the court will assign someone as a legal guardian, who in turn will decide what to do with the death benefit. That is because life insurers cannot issue payouts to minors. So, if you name a minor child as a beneficiary, it could be years before they receive the funds.

What are your options, then?

Here are three ways to ensure your child receives the funds in the way and within the timeframe you want.

1. Create a trust – Name someone you trust as a trustee, who will manage the assets until your child becomes an adult.  
2. Keep your ex-spouse as the policy’s beneficiary – You may want to consider this option if you are sharing expenses for your child with your ex-partner.  
3. Name someone a custodian - This should be someone whom you trust and who will act in the best interest of your child.

Cash Value of Your Policy

Permanent life insurance policies often accumulate cash value. Examples include whole life and universal life plans. A part of your premium is funneled to an in-built investment account, which grows over time on a tax-deferred basis. This money is referred to as a policy’s cash value.

Your policy’s cash value is your money and as such can be accessed at any time and for any purpose. For this reason, it is regarded as a part of your estate. Generally, it is also considered a marital asset.

So, what happens to your policy’s cash value after a divorce?

Since the cash value is usually regarded as a marital asset, both you and your ex-spouse will be entitled to share it. As to how this money will be split, this depends on many factors, including:

• The laws of your province or territory regarding the division of marital property
• Whether you or your ex-partner want to give up a greater share of the policy’s cash value in return for a greater share in a marital property, a retirement account, or any other marital asset
• Whether the court requires you to maintain life insurance coverage after the divorce. In that case, the cash value may be left as it is to ensure the policy does not lapse

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Should You Change Your Life Insurance Policy After a Divorce?

If you do not have any children from your ex-spouse, there is no good reason to keep them as a beneficiary.

If children are involved and you are sharing their financial responsibility with your ex, you may opt to cash out the policy and split the funds. If you are providing spousal support, you may want to keep the cash value intact and use it to pay future premiums.

Court-Ordered Life Insurance

During your divorce settlement, the court may order you to carry a life insurance policy, especially if you are the primary earner in the family. This is done to protect support payments in case you die. You will be required to name your spouse and children as the beneficiaries.

Here are a few things to keep in mind if the court decrees you to buy life insurance during your divorce settlement.

1. Get started as soon as possible

The court will decree you to put a plan in place by a specific date. It is important you start shopping for a life insurance policy at the earliest opportunity because approvals can take up to 5-6 weeks. It could take even longer if the insurer contacts your physician for additional information regarding your medical history and current health.

2. Share the particulars with your spouse

In the case of court-ordered life insurance, it is best to communicate the particulars of the policy with your spouse right off the bat. Specifically speaking, you would want to share details such as:

• What will be the policy’s term
• How much will be the death benefit
• Who will be the policyholder
• Who will be responsible for making premium payments

You can set up court-ordered life insurance in two ways. One, your ex-spouse can buy a policy on your life, pay the premiums, and name themselves as the beneficiary. Two, you can take the ownership of the policy and designate your ex-spouse as the irrevocable beneficiary.

3. Provide proof of your policy to the court

The court may ask you to provide proof that you have bought life insurance as part of the spousal support. If so, submit a copy of the signed application.

Buying Life Insurance After a Divorce

Which type of life insurance policy should you buy after your divorce depends on your financial needs and how much you can afford to pay. Term life insurance is the best option for most people because it is affordable and simple to understand. However, divorcees with special needs may benefit from opting for permanent life insurance.

Term life insurance, as the name suggests, provides life insurance coverage for a fixed term, which could be as short as one year and as long as 35 years. Your beneficiary receives the policy’s proceeds if you pass on during this period. If you outlive the term, your coverage will lapse, unless you renew it. Term life insurance policies are affordable partly because they offer temporary coverage and partly because they do not build cash value. Consider a term life plan if you are looking to cover your income until you reach a specific milestone, like retirement, or paying off your debts.  

Permanent life insurance, in contrast, lasts until you die, provided you pay the premiums. Many of these plans, like whole life and universal life insurance policies, also build cash value over time. On average, permanent life insurance is six to 10 times costlier than term life. All the same, it can be a good option for a parent of a child with special needs. That is because you can rest easy knowing your beneficiary will receive the death benefit regardless of when you pass away.

If you have a lifelong dependent, you may want to consider guaranteed universal life insurance. These insurance policies provide lifelong protection but have little or no cash value. As a result, they are cheaper than permanent policies that build cash value.

High-net-worth individuals, on the other hand, may find a permanent life insurance policy with cash value more to their liking. Apart from providing life insurance cover, these insurance policies act as an investment vehicle.

Conclusion

Divorces can be complex, both emotionally and financially. However, life insurance should be a critical component in the process. Knowing who your beneficiaries are and whether or not your policy will be regarded a marital asset can help you ensure your loved ones will have an adequate financial cushion if something were to happen to you.