Minor children named as beneficiaries.
If a child under the age of 18 is the beneficiary of a life insurance policy when a claim is filed there will be a delay in the payment of the death benefit proceeds. Exactly what will happen depends on laws of the state in which the insured died and/or the minor beneficiary resides at the time of death. In some states no claim payment is allowed until the beneficiary reaches 18; the insurance company holds the proceeds, crediting interest, until the child attains age 18. In other states the courts will appoint a guardian/trustee to whom the proceeds will be paid. But, this will take some time and various relatives can prolong the process by inter-family squabbles as to who should be named.
If the desire is to name these minors as direct beneficiaries—either primary or contingent—a trust drafted by an attorney should be the beneficiary. It will name the children for whom the proceeds are intended, guardians, investment instructions and payment criteria.
Corporate employer owns policy on life of employee but employee names personal beneficiary
This arrangement can have a double tax whammy! If the employer wants to provide a life insurance benefit for an employee and maintains ownership of the policy, but the employee’s spouse is the direct beneficiary, it is entirely possible that the entire death benefit will be taxed as income to the estate of the deceased employee. This will likely be the case if the employer had been deducting the policy’s premium as a business expense and the employee reported no income tax on the premium paid. Alternatively, if the deceased employee was a stockholder, the death benefit could be characterized as a dividend. This means that not only would the employee’s estate be subject to income tax, the corporation could not tax deduct the payment made.
When the desire is to provide a benefit for surviving family members of a key employee, if the employer owns the policy, they should also be the beneficiary and enter into an agreement with the employee to pay the proceeds to the family members at the employee’s death. In this transaction, the premiums paid would not be a tax deductible business expense; the death benefit would be tax free to the corporation (assuming proper disclosure forms are filed); and the payments made to the employee’s family would be taxable to them in the year each payment is received.
Coming up…When can a life insurance company contest a claim?