My wife and I are very happily married and have no plans on divorce. But I see clients who have to go through this process all the time. When they do, it’s a tough ordeal. I see people get taken advantage of for no good reason. Many times, the problem boils down to protecting the settlements.
If you are divorced and your settlement includes alimony, child support, and/or mortgage payments, you’ve got to protect yourself. One important way to do that is to make sure that your ex-spouse buys enough life insurance. Even if they’re fair and honest, your ex will admit that they won’t live forever. And if they die, you’ll be the one who ends up with the short end of the stick.
The last thing you want is to assume that everything is solid only to have a catastrophic event turn your apple cart upside down. Just when you thought you had it made, you’ll have to start borrowing money and/or going back to work. Not a pretty picture.
Things to look out for…
If we break this down, there are three important elements:
1. Make sure your ex buys and keeps life insurance.
2. Makes sure you’re the life insurance beneficiary.
3. Makes sure the policy is large enough.
Each of these steps are important because your ex could agree at first to buy the insurance and then cancel it, fail to make the premium payments, or change the beneficiary. The easiest way to make sure the policy stays current is for you to buy it using your ex’s money. That’s the only way to make sure that there’s a policy in force when you need it.
This boils down to one thing: you must be the owner and the beneficiary of the life insurance. You cannot compromise on this point. The lawyers may argue that your ex can buy the insurance and you can simply get yearly confirmation that nothing has changed. Nonsense, that’s a silly solution. It’s much simpler for you to buy it and be the owner. The extra cost should be included in the support payments. This is much safer and smarter for you.
Having said that, if you have small children, you probably also need some insurance of your own. If you die, your ex will be solely responsible for your children. That means that, while they used to have 50% of the financial burden, now they’ll have 100% of it. Given this, you need to consider buying life insurance to ensure that your children will be well cared even if you aren’t around.
What kind of insurance? And how much?
The next question is, what kind of life insurance do you need? And how much?
If you understand what term life insurance is, then you’ll likely agree that it’s well suited for replacing income over a fixed period of time. But if your ex is responsible for support, that support may last your lifetime, or at least until you re-marry. If you don’t re-marry, your ex may be on the hook for life. If that’s the case, you might need to buy a whole life insurance policy.
If your ex balks because whole life is expensive (which is true), at least get the longest term life insurance policy that you can find. This is just one way of several ways to save on life insurance, because even a lengthy term policy will be cheaper than permanent life insurance.
The last question is, how much insurance do you need to have on your ex?
Fortunately, this isn’t tough to calculate. Add up all the payments your ex is required to make over the course of a year and divide the number by 0.04 (or multiply by 25). This is the total amount you would need to replace the payments that you’re supposed to receive. Let’s look at an example.
Say your ex pays you $40, 000 over the course of a year. The question is, if you could invest your money at 4%, how much would you need to invest in order to generate $40, 000? The answer is $40, 000 divided by 0.04 (or $40, 000 x 25), which works out to $1, 000, 000. In other words, you should buy a $1, 000, 000 term life insurance on your ex in order to insure you’ll have the promised support.
That 4% return might seem a little high right given the market that we’ve experienced over the past few years but, over your lifetime, it’s a reasonable number to use.
Another issue that often comes up is whether or not you should buy the coverage from one life insurance company, or two? Different people have different responses to this question. Personally, I would use one company. It’s much simpler to get done and keep track of. While $1, 000, 000 is a lot of money to you and me, it’s nothing to a major insurance company. Just be sure to buy your policy from a high quality company.
What’s your take?
If you’re divorced and receiving support payments, is your ex insured? If so, were you able to negotiate owning the life insurance policy yourself? If not, why not?
2 Responses to “Divorce and Life Insurance: How to Secure Your Settlement”
I agree that the settlement should be insured, but I think it should be up to the owner of the policy – therefor the recipient, to make the payments and determine the amount needed if an ex-spouse dies. It should not be paid by the ex spouse. Using the numbers in your example, it is not appropriate in my mind, to have a million dollars in insurance being paid for by and ex spouse when the years have past and there is only one year left of support remaining. If the supporting ex-spouse dies, the receipient will receive 20 times the amount that would have come in as support. The diminishing need can then be decided upon and controlled with the cost/ benefit decisions being made by the recipient
Another huge problem to look out for: interference from state divorce laws. In my state, Washington, a divorce itself automatically removes the ex-spouses from any interest in one another’s estates. This specifically includes life insurance benefits. Someone was trying to save people from the anguish of forgetting to change their beneficiary I suppose – but they did it by complicating the law in a way that no one thinks to suspect. I know of a case where this law wreaked havoc with the estate plan of a deceased friend.
The relevant takeaway for your discussion is that if an insurance policy already exists, the beneficiary list may have to be updated after the official divorce date, even if there are no changes. In any event, all of these plans should come to a point on the same day – there should be nothing left to do after the official divorce/settlement date.