Believe it or not, it’s easy to forget you bought life insurance. In fact, it’s estimated that more than $7.4 billion in life insurance proceeds are unclaimed. Now, considering that the life insurance market’s overall payout number is in the hundred billions, that’s not a huge percentage of policies. Still, the risk is there.
Sometimes the cause of the oversight is simply because the beneficiary doesn’t know they’re a beneficiary. While trusts have provisions that keep beneficiaries notified, there are a few other things you’re going to have to do to ensure your beneficiaries get the benefit you paid for.
Why Proceeds Go Unclaimed and How Insurance Companies Handle It
Traditionally, life insurance companies have waited until someone filed a life insurance claim to make a payout. While they have access to Social Security death data, sometimes the data isn’t updated or the insurance company simply doesn’t find it. In the past, insurance companies left it up to beneficiaries to trigger the claims process.
But the big backlog of unpaid claims made many states take notice and as such, they’ve started cracking down on this. In about 20 states so far, insurance companies must follow up if they receive information that an insured has passed away — like in a routine database search. However, you should use that as a safety net and not the sole means of beneficiary notification.
When the beneficiary doesn’t know the policy exists and the insurance company isn’t notified of the death, a claim won’t get filed. The benefit is never triggered. In that case, the insurance company has procedures to follow. They can’t just keep the money. Instead, they need to report it to the appropriate state agencies. The laws on how this is handled change from state-to-state.
In many cases, insurance companies will compare policies to the Social Security Administration’s master death file to locate any potential claims. They’ll do searches of databases to find beneficiaries. If after a certain amount of time, nothing happens, they may be required to turn proceeds over to state unclaimed property divisions. All of this depends on the individual laws of the state.
The problem again is the notice of death. If an insurance company does not find a record of the insured’s death, they will never be triggered to look any further. That’s why we highly recommend keeping a file with all applicable insurance policies together. Also, keep your insurance companies updated not just on your changes of address but on changes of addresses of beneficiaries. That way, you’re covered from both angles.
There is another way to manage this more seamlessly. That’s through the use of an irrevocable life insurance trust (ILIT).
How ILITs Offer Automatic Notification
ILITs offer protection against the risk of unclaimed policies. This is because that trust is going to send out notifications on a yearly basis and when the claims process starts. They’ll be the ones that file the claims and make sure beneficiaries get paid.
The first line of defense is something known as the Crummey notification. The Crummey notification is a letter that the trust must send out if you’re funding it with your annual gift tax exclusion. For your trust to be valid, these Crummey notices must let the beneficiary know that a payment has been made to the trust as a gift to them.
The beneficiary must be offered the opportunity to withdraw the funds, which is often referred to as their “Crummey withdrawal rights.” Finally, the beneficiary should be notified that if the funds aren’t claimed, they will be used to buy life insurance policies to benefit them.
The next line of defense comes from your trustee. Your trustee is going to be the one buying the policies, paying the premiums, and making the claim on your death. When they receive notice that you’ve passed away, they’re going to deal with the insurance companies and provide the information those companies need to pay out the benefits. They will then begin making payments per the terms of the trust. Beneficiaries won’t have to deal with any of the specifics and the entire process is done seamlessly.
These trusts also serve to keep assets out of your estate, so those same beneficiaries won’t be burdened with estate or inheritance taxes. The ILIT process is so efficient that it’s rarely responsible for unclaimed policy funds. Those are usually a result of an insured buying the policy themselves and then forgetting it or not notifying beneficiaries.
A trust can be the ideal solution for someone who is concerned that their policy funds may go unclaimed and who also needs the death benefit to be paid outside of the estate. It’s especially important if you have many beneficiaries, because the trust can handle them all at once. For more information on how an ILIT can make your estate settlement process and wealth distribution seamless, contact a Howard Kaye advisor at 800-DIE-RICH.
