What Is a Life Insurance Beneficiary?

A life insurance beneficiary is a person that will be paid a certain amount of money upon your death. Picking an heir for a life insurance policy is a vital step when you sign up for one because it is the only legal way to appoint who receives the money if you pass away within the policy’s term.

If you're a beneficiary, you should know how the policy pays out, what your options are, and what might complicate the process. Read on to learn more about naming or being a life insurance beneficiary.

What Is a Life Insurance Beneficiary?

When you purchase a life insurance policy, you can name an heir, which can be a person or an entity. You can also have more than one. If you pass away during the policy term, they receive a set amount of money or a series of payments.

As the policy owner, you can pass the money on as you wish: 

• You can name one person to receive it all.
• You can name two or more people to split the entire amount in the way you decide.
• You can name your estate.
• If you have a trust or want one, you can name it to receive the money from the policy. 
• Some people prefer to give money to a charity when they pass on; you can name any valid charity you want.

You can name your minor children if you need to. If you plan to do this, it helps to be aware that most states require an adult guardian to manage minor assets. The process of appointing a guardian can be costly and consume a lot of time.

One method that can help speed up this process is to create a trust or custodial account. The money is placed in the trust for your children; a trustee then manages it until your kids reach legal age or the age you decided to let them have it.

If you neglect to name anyone, your estate becomes the "de facto" beneficiary.

How Do You Name Insurance Beneficiaries?

When you're naming people to receive the insurance money, make sure that you provide accurate information. For instance, you'll need to have their social security number, birthday, and contact information. Also, double-check it before you submit it to make sure it's all correct. If there are errors, the wrong people might receive the money, or legal problems could arise that your heirs have to deal with.

For example, say you write “spouse” as your beneficiary. You get divorced two years later and remarry without changing your policy. Both your former spouse and your current spouse may try to claim the money after you pass.

Since "spouse" is unclear, you've created a legal issue that can delay payout. One was your legal spouse when you passed on, and the other was your legal spouse when you created the policy. A fight over the money is likely to occur, along with all the legal fees, stress, and heartache that always follow fights over money.

Primary and Contingent Beneficiaries

In many cases, it makes sense to also name one or more contingent beneficiaries on a policy. A contingent beneficiary is someone who receives some or all of the money if the primary beneficiary (or beneficiaries) are dead or cannot be found.

Let’s say you purchase a policy with a $1 million benefit. You name your spouse as the beneficiary. If you die during the policy’s term, your partner will receive the full amount. 

However, your primary beneficiary could die before you. You want to make sure the money passes on to your children, so you add your three adult children as contingent beneficiaries. You add each of them to the policy and divide the money into equal parts. This way, if your spouse passes away before you do, your children will each receive a third of the money after you pass on.

Per Stirpes and Per Capita

Another thing to think about when naming beneficiaries is whether to choose per capita or per stirpes. These dictate how the money should be doled out if one or more of your beneficiaries dies and no other contingents are listed on the policy.

Per capita (“per head”) is usually the default designation. This means you don't need to go into detail about each event that might occur. Instead, each of your living beneficiaries receives an equal share. For instance, if you have three adult children and one dies before you, the remaining two children each receive one-half of the face value instead of one-third.

If you choose per stirpes and one of your beneficiaries dies before you do, that person's children will receive their amount if they have kids. For example, if one of your three adult children dies before you and is survived by two children, a per stirpes arrangement would give your two grandchildren the one-third that your child was going to get. Each grandchild would receive one-sixth of the money.

Some beneficiary designation forms will have a box you can check to select per stirpes. If no box exists, check with your agent to see if you can write per stirpes in.

Who Can Change the Life Insurance Beneficiary?

Designate at least one beneficiary during the application process for life insurance. That doesn’t mean you can’t change it later. If you’re the owner, you can change or add people at any time.

For example, you may have some changes in your life that give you a reason to appoint someone else. You might want to appoint someone else in the case of a marriage or divorce. The birth of a child is a good reason to revisit your policy as well. Or, you might have another reason that warrants a change. 

However, if you've made an "irrevocable" beneficiary, you’ll need to get their consent to make any change (they'll need to sign the policy change form). 

Also, in some cases, your insurance company or state may restrict who you can name. For example, married couples who live in community property states may need their spouse to agree before they can name anyone else.

Do Beneficiaries Pay Taxes on Life insurance Policies?

When taken as a lump sum, a life insurance death benefit is usually not considered taxable income. However, there are instances in which you might owe some tax.

For instance, if the money is received as monthly payments or as an annuity, any interest paid on top of the face value is taxable income. Also, if the money is paid to your estate instead of a person, it may be subject to estate taxes. The good news here is that unless your estate is worth more than $11.7 million, it will not trigger any estate taxes.