22 Jun Life Insurance and Your Estate Plan

A life insurance policy helps provide financial security and peace of mind for your loved ones after you’re gone. Understanding how life insurance works with your estate plan is essential for effectively protecting your assets and providing for your beneficiaries. Here’s what you need to know about life insurance and how it affects estate planning. 

Understanding Estate Planning and Life Insurance

Estate planning ensures that your assets end up in the right hands at the right time. It involves creating legal documents like wills, trusts that detail your wishes for what happens after you die. It can also help you leave instructions for your medical care and asset management if you ever become incapacitated. 

Your life insurance policy is a major asset in your estate. After you pass away, the proceeds from your life insurance will go to your named beneficiary. But without careful estate planning, this asset could become vulnerable to creditors or have to go through probate.

Life Insurance Trusts

A good way to protect your policy is to create a life insurance trust. Legally, the life insurance trust owns the policy, and after your death, the funds transfer to the trust’s beneficiary. This helps it avoid probate and minimizes estate taxes.

When you place your life insurance policy in a trust, you can also control exactly when and how your beneficiary will receive their inheritance. They could receive it immediately after you pass away, or years later. They could also inherit the proceeds all at once, or in a series of payments. 

Six Ways to Use Your Life Insurance in Your Estate Plan

1: Cover Final Expenses

After someone passes away, there are many expenses that can burden their loved ones. Funerals can cost thousands of dollars, or they might leave behind outstanding debts, mortgage payments, and more. Your life insurance policy can provide a financial cushion that will help your loved ones cover these and other expenses without worry. 

2: Equalize Inheritances

If you have multiple beneficiaries, your life insurance policy can help equalize their inheritances. For instance, you can leave your house to one of your children, your business to another, and your life insurance policy to the third as an equally valuable asset. This can help you provide for your loved ones without causing family disputes. 

3: Cover Estate Taxes

Although Arizona does not impose estate taxes, there is still a federal estate tax. As of 2023, if the total value of your estate exceeds $12.92 million it will be subject to the federal estate tax. However, the proceeds from your life insurance policy can help pay these taxes so the funds won’t have to be taken from the assets you wish to leave to your beneficiaries.

4: Facilitate Business Succession 

Life insurance proceeds can also help transition the ownership of any businesses you have a stake in. For instance, if you own a business with others, the proceeds could be used to buy out your share. Your life insurance policy can also be used to cover any outstanding business debts, or to provide financial support for the new owners. 

5: Support Charitable Giving

Many people like to include charitable giving in their estate planning, and life insurance can help with that. For example, naming your favorite charitable organization as your life insurance policy’s beneficiary ensures they’ll receive the death benefit directly. This way, you can make a lasting impact and support the causes you care about even after you’re gone.

6: Protect Non-Marital Children

Your life insurance policy can also provide some financial protection for your non-marital children or stepchildren. Stepchildren are not your legal heirs, so you need to include them in your estate plan. If you wish to leave an inheritance directly to a non-marital child or stepchild, you can name them as your life insurance beneficiary.  

How to Choose the Right Life Insurance

There are two types of life insurance to consider in Arizona: term life insurance and universal life insurance. 

Term life insurance pays a death benefit if you pass away during the term in which your policy is active (typically 10-30 years). Term life insurance is beneficial if you only wish to support your estate for a short period of time, such as waiting until you have enough savings to meet your financial goals.

Universal or whole life insurance stays in effect throughout your lifetime. The cash value of this type of life insurance policy builds over time. If you want to guarantee there will be enough funds to cover various expenses after you pass away, then universal life insurance is best. 

How Much Life Insurance Do You Need?

The answer to this question is different for everyone—how much life insurance you should purchase depends on your personal needs. To give yourself a good starting point, calculate your annual income, expenses, and debts. You’ll also need to consider your family size, as the bigger your family is, the more coverage you’ll require. Plus, you should also consider less predictable factors such as healthcare costs. 

How to Choose a Beneficiary for Your Life Insurance Policy

Before you name your life insurance policy’s beneficiary you should consider how you wish the policy to be used. For instance, if you want it to cover any final expenses, then it should go to your spouse, the executor of your will, or someone else who will be in charge of end-of-life costs. But if you want the proceeds to help with your business, then it should go to whoever will be the new owner. 

Whoever you name as the beneficiary, you must keep the designation up to date if anything changes. It’s important to know that a beneficiary designation supersedes a will. That means if you get divorced and you leave all of your assets to your spouse in your will, but your ex-spouse is still the beneficiary of the life insurance policy, then your ex-spouse will get the proceeds. 

Estate Planning Attorney in Mesa and Chandler

How you decide to use your life insurance policy in your estate plan depends on your specific circumstances, your financial goals, and the type of policy you choose. To get all the details right, you should consult an experienced estate planning attorney. 

The team at Phelps LaClair can help you determine the best ways to integrate your life insurance policy into your estate plan. Give us a call at 480-892-2488 today to schedule a free consultation in Mesa, Chandler, or one of our other convenient Arizona locations. 

Images used under creative commons license – commercial use (6/22/2023). Photo by Nathan Dumlao on Unsplash