While it is prudent to review in-force life insurance coverage periodically, it is imperative to do so at the time of divorce. At a minimum, such a review should include the following.
____ Obtain all policies on both spouses, and create a schedule of insurance if one doesn’t already exist.
____ Confirm the following for all policies. Type of policy, name of policy, face amount, cash value – both current and guaranteed, surrender value, loans, loan interest rate, modal premium, current dividend option, riders and their expiry, underwriting classification, and beneficiaries. Note: Ownership is confirmed indirectly, as the insurance company will generally only release the above information to the owner (or the agent).
____ For all non-term policies, request in-force illustrations from the carriers. These will vary, but should always include reduced: dividend scale (whole life), interest rate (universal life) and earnings assumption (variable life) illustrations.
____ Check the beneficiaries on all group and association life plans and make any necessary changes.
____ Obtain the ratings (Best, Moody’s and S&P, at a minimum) of all carriers.
____ In light of the impending divorce, determine the appropriate ownership and beneficiary arrangements for each policy.
____ Determine if existing insurance or new insurance would be the most efficient way to comply with the provisions of the divorce decree.
If the divorce decree mandates that one party should carry life insurance for the benefit of the other party, the other party should be the owner as well as the beneficiary, for two reasons. First, when structured in that manner, the IRS will consider the premium to be alimony, thus making it deductible for the paying party (the insured). No deduction will be allowed if the insured has an ownership interest in the policy.
Additionally, since the insurance company will generally only release policy information to the owner (or the agent), it is the easiest way for the receiving party to confirm that premiums have been paid and the policy is in force.
The process of divorce usually takes place in an emotionally charged atmosphere wherein logic and prudence do not always reign supreme. For example, I rarely see the life insurance structured so as to qualify as alimony, thus losing a potential tax deduction. Why that is I don’t know, but someone could be missing out on a potential benefit.
Which brings me to a closing point: Generally, legal fees paid for a divorce are not deductible. An exception is for legal fees paid for tax advice. Certainly, advice on how to structure a life insurance policy so as to qualify for the alimony deduction will meet this exception.