8 Tips for Choosing a Life Insurance Beneficiary

Tamara Holmes

choosing a life insurance beneficiaryWhen you buy a life insurance policy, you must designate a beneficiary, or someone to receive financial compensation in the event of your death. However, it's not always as easy as it sounds, as legal requirements and life changes can play a major role in the beneficiary selection process. Since you won't be around to hand the money over to your loved ones yourself, here's how to make sure your final wishes are fulfilled.

8 tips for choosing the right life insurance beneficiary

1. Determine who you want to help.

You don't buy life insurance for you; rather you buy it to provide financial support to someone else. Some people want to leave money for a spouse or children after their death. Others may use a life insurance policy to finish paying off an unpaid business debt. Think about whose welfare you're most concerned with and narrow down your choice of beneficiary from there.

2. Know your options.

Your beneficiary doesn't have to be a person. A trust, or a legal agreement that lets you place property under the control of a trust manager, can be named the beneficiary. The beneficiary can also be a charity or simply your estate.

A trust works well when you want to manage the dispersal of the money. For example, if you have small children, the life insurance company would make the check out to the trust and a trust manager would pay for your children's needs as you instructed.

A charity is a good choice if your family is financially taken care of and you want to create a legacy after your death.

While you can legally make your estate your beneficiary, it's not generally recommended, says Erin Miller, an estate attorney based in Pennsylvania. In some states, creditors can go after property in an estate, including the money from a life insurance policy, Miller adds.

If you're unsure which option to choose, an insurance professional, such as a life insurance agent, can ask you the crucial questions to help you make the right decision, says Jack Dolan, a spokesman for the American Council of Life Insurers.

3. Consider the beneficiary's circumstances.

Sometimes your decision to make someone a life insurance beneficiary could cause problems for that individual. Say a family member is disabled and their income level allows them to qualify for certain government benefits. If you make them your beneficiary and they receive a life insurance payout, their income may increase to the point where they no longer qualify for their government benefits, Miller says. When naming a beneficiary, "the beneficiary's circumstances are as important to consider as the life insurance policy owner's circumstances," Miller says.

4. Assign a contingent (secondary) beneficiary.

When you assign a beneficiary to your life insurance policy, you make an assumption that the beneficiary will outlive you. But that doesn't always happen. A contingent beneficiary is a secondary choice who would receive the policy benefit in the event of the primary beneficiary's death.

5. Review the policy often.

There are many reasons why you may want to change your beneficiary over time. "People go through divorces, they get married, they add children, they disown children," says Marvin Feldman, president and CEO of Life Happens, an organization that educates consumers about life insurance. Any time you experience a life-changing event you should consider whether you need to change your beneficiary, Feldman suggests. For example, if you want to make sure an ex-spouse doesn't get a windfall when you die, take the time to fill out the required paperwork to change the beneficiary.

6. Consider the language of the policy.

Beneficiaries can be listed explicitly by name, or they can be designated by class, which is a group of individuals such as the "grandchildren of the insured." Complications can arise with either option that you choose. If you list your grandchildren by name and you forget to update your policy once your youngest grandchild is born, he or she will not get a share of the policy when you die. On the other hand, if your beneficiary is "all children born from this marriage," an adopted child might not get his or her portion of the payout, Feldman says.

7. Make sure underage children are cared for.

It's natural for parents to want to leave money for underage children in the event of their deaths, but it's not enough to simply name your underage child as your beneficiary. The life insurance company will not award the money to a child under 18 or 21 depending on which state you live in. The money would have to be paid into a trust or to a designated guardian, Feldman says. If you don't designate a guardian or set up a trust, the court will decide who will manage the money for your children, which may or may not be the person you had in mind.

8. Ensure that your policy matches your will.

One mistake people make is assuming that they can leave someone a life insurance policy in their will without making that designation in the life insurance contract itself. You must officially name the beneficiary in the life insurance contract, because that designation will prevail even if your will says that you'd rather someone else received the money.

If you took the time to consider the financial implications of your death, make sure you take the time to ensure that your money ends up where you intended it to go, Dolan says.