When going through a divorce or dissolution, one asset that many couples have is life insurance. This may be something up for division as a marital asset, but before we can discuss dividing it, you must first understand how life insurance works.
There are two different types of life insurance: term insurance and whole life insurance. Term insurance is issued for a limited timeframe such as 20 or 30 years. If the insured dies during the term, then the death benefit is paid out. At the end of the term, the insurance either expires or can sometimes be converted into a new policy. However, term insurance does not have what is called “cash value,” money that is built up inside the policy under a whole life insurance policy.
Whole life insurance is a policy that will insure a person for their entire life as long as the policy premiums are being paid and the insurance stays in force. There are several types of policies such as a Universal Life policy, Indexed Life policy, and others. These policies accumulate money inside the policy like an investment as each premium is paid—the cash value that term insurance lacks.
When valuing life insurance during a divorce, term insurance is typically cast aside as relatively unimportant because it does not have any cash value to divide. However, term insurance can still be important. In a situation where spousal support or child support is being paid, the receiving spouse may want life insurance to ensure that payments will be made in the event of the death of the paying spouse. In other words, what if the paying spouse dies 2 years into a 10-year spousal support order? How is the receiving spouse going to be compensated for the 8 years of unpaid support? In this case, having a life insurance policy on the paying spouse would help alleviate this concern. If a term insurance policy is already in place on the paying spouse, the divorce settlement may include a requirement for that person to keep their policy in place and name the receiving spouse as the beneficiary until their years of support have ended.
A more creative option is to have a stepped down beneficiary schedule. If the paying spouse does not want to name their ex-spouse as the full beneficiary, some agreements include a stepped down beneficiary schedule that slowly reduces the beneficiary percentage paid to the ex-spouse as time goes by. In these cases, the beneficiary percentage for the receiving spouse would be only enough to cover the outstanding spousal support payments, then the remaining death benefit will be allocated to a different beneficiary. Each year, the beneficiary percentages can be adjusted to slowly reduce the beneficiary percentages accordingly.
Alternative Divorce Solutions can provide support as you weigh your life insurance options through the divorce process.