Unless you know this, it may be too late: naming your child as a minor life insurance beneficiary is supposed to be protecting your child, but the insurance company can’t pay out the proceeds to your child until he or she reaches age 18. Nor does it matter how well you’ve clearly stated your wishes on the form. A child is not able to sign an insurance claim or to open the account into which the proceeds go, and cannot legally receive the payout.
This is something that many good parents aren’t prepared for. So let’s take a walk and see why this is and then most important how it works so that your child DOES receive that money when they need it.
Why the insurers won’t be paying a minor directly.
A minor is not legally capable of making a contract (agreement) and receiving a payment from an insurance company is considered one. If a claim is made by an insurer and the beneficiary is less than 18 years old, the insurer would then remove the funds without anyone else’s permission.
When there is no other solution, the money doesn’t lie idle. Rather, it is normally handled via a court system, and a judge assigns someone to be in charge of it. That is a lengthy process, which can last several months, and also lawsuits cost money that’s supposed to be going to your child.
If you don’t plan for something, what is likely to happen?
Imagine if you have appointed your 9-year old as the main beneficiary a number of years ago and you never made any changes to it. Here’s an approximation of what occurs if a person gets injured now.
It is assumed that the insurer will assume the claim when he/she confirms that the named beneficiary is still minor. A court becomes involved and hires a guardian of the estate, who may be one of the surviving parents, or someone other. Until your child reaches age 18, the judge will be responsible for the way the money is spent, and depending on your state, the judge may have to continue to receive reports and charges may continue to be applied to the money disbursed.
All that is not disastrous. However, it is not as fast, inexpensive or easy to control as most parents realize by simply ticking a box when they designate a beneficiary.
There are three ways to set this up:
Here are actual choices to make without giving up the notion of leaving money to your child. Additional structure needed: one.
1: You can designate a Custodian Under UTMA (Uniform Transfers to Minors Act) or UGMA (Uniform Gifts to Minors Act).
All states have passed a Uniform Transfers to Minors Act, or Uniform Gifts to Minors Act. In place of the name of your child, you name an adult as your child’s custodian in your name “for the benefit of” your child. It is usually written on the form as: [Custodian’s Name] as custodian of [Child’s Name] (for the [State] UTMA).
The custodian is responsible for the money until your child is 18 years old (21 or 20 in some states). It is not expensive to establish and most insurance companies have a typical form for it. The disadvantage is that once your child reaches that age, you’ll give up control of whatever is remaining and it will be theirs to enjoy in full at once, with no conditions, no staggering and no restrictions.
2: Complete a Life Insurance Trust.
A trust allows you to have a lot more control. You put your trustee in charge of your trust instead of your child in charge, and designate the conditions of the trust: the amount that will go to the beneficiary, when and how, and for what: for your child’s education, for your child’s first home, etc.
The route is more time consuming, typically taking the help of an estate planning attorney and it is more expensive than simply to make a custodian designation. However, it’s typically the best choice for parents who would prefer to receive their payouts over time instead of all at once in a lump sum at 18.
3: Identify a Trusted Adult directly
Some parents opt out of UTMA and trust structures altogether and simply designate a trusted adult as the primary beneficiary, and have a private agreement with the adult that the funds will go to the child. It’s not a legal commitment as a custodian or trust designation is, and will only work if that person follows through. It’s definitely not the recommended way, but it’s good to know that there is a way that you can do this if you haven’t quite got time to create something more formal.
Comparing the Options
| Approach | Cost to Set Up | Level of Control | Best For |
|---|---|---|---|
| UTMA/UGMA Custodian | Low, often free | Limited past age of majority | Simpler estates, faster setup |
| Life Insurance Trust | Higher, needs an attorney | High, fully customizable | Larger payouts, staggered access |
| Trusted Adult (informal) | Free | None, relies on trust | Temporary or short-notice situations |
The age when one can reach the majority depends on the area of the country.
Most states disburse UTMA/court supervised funds on the 18th birthday; however, this isn’t consistent. Alabama and Nebraska have age 19 and Mississippi has age 21. Some states also permit a parent to set the default termination age starting from the opening of a UTMA account up to 21. Before you think your 18-year-old will be “in control” of their decisions, it is worth ensuring that your state has this same rule.
Don’t forget to include the Contingent Beneficiary!
If the primary beneficiary is not living to receive the designation, it is of no consequence. It’s important to name a contingent, or backup, beneficiary as well, particularly when your will names your spouse as your primary beneficiary, and your children are to benefit if your spouse dies before you. In our guide to how life insurance beneficiaries receive payouts, we’ll discuss how these designations actually work when it comes to distributing payouts.
We’re not even talking about how much coverage.
But before all this matters, it’s good to take a step back and make sure that your coverage is appropriate for your kids’ needs, either in terms of income replacement, paying off the house, or college tuition. If you’ve never calculated your life insurance needs before, our breakdown of how much life insurance coverage you need walks through this calculation in more detail.
It is a question which is frequently asked by a parent who does not have a traditional income. If this is your home life, then check out our guide on life insurance for stay-at-home parents in tandem with this one as the calculation for life insurance for a stay at home parent is different.
If Your Child has Special Needs
This is a case deserving a special comment. A regular UTMA account may work against your child if he or she gets, or will eventually be eligible to receive government benefits such as SSI or Medicaid. Those benefits are often based on asset limits and a large sum of money coming in to your child’s name at age 18 can disqualify.
A special needs trust is created just to prevent this issue. It will keep the money for your child without counting toward those asset limits because the funds are not your child’s personal assets, but belong to the trust. Where this is the case, it is something that you don’t want to forgo a trust and skip straight to an attorney-drafted trust.
To modify an existing policy.
Sometimes people have named a minor and they want to change it, but this isn’t as difficult as it sounds.
First, get in touch with your insurance provider, and ask for a beneficiary change form; many insurance companies will allow you to change beneficiaries online or via your agent without altering the policy itself. Determine the type of structure you will use first, UTMA custodial, trust or other contingent set up, because the form will usually require a specific legal language to be used. For a trust, you will need the name and date of the trust so you can fill in the form. After submission, most insurance companies will confirm the change in a matter of weeks and it will be advisable to ask for written confirmation on a separate document.
In most cases, it is a 15 minute job. It’s the structure that they’re going to choose that is often the deciding factor, rather than the paperwork itself.
The parents are likely to make some of the following mistakes:
The largest is just calling a minor child by name and never using the designation again, often years later, when some change occurred. A divorce, a falling-out with a selected custodian or a change of state does not mean that a new form is required to be completed at the time of the divorce.
A common error is selecting a custodian/trustee who is close to the client instead of considering them based on the financial judgment. Being a favorite aunt doesn’t mean that she has the qualifications to be able to responsibly manage a six-figure payout over 10 years.
Some parents think that they’re home to the children if they name their spouse as the primary beneficiary, but if they have a joint accident or if both of them die, the kids won’t receive the money without the contingent beneficiary designation.
Frequently Asked Questions
Yes, but if anything occurs before you update it, the cash goes through the court procedure that’s mentioned earlier. While not technically a full trust, if you are not ready for a full trust yet, you can opt for a UTMA custodial designation, which is a more speedy and affordable alternative.
No, the guardianship of a child’s care and the control of his or her money is not combined. You can designate one person to raise your child in the event of your death and another person to handle the finances in case of your passing away.
Most UTMA arrangements will deplete assets based on the UTMA requirements of your state, which can be different than what you would have decided firsthand. This can be specified directly in a trust, rather than pursuant to state law.
It can. UTMA assets are generally considered the child’s asset on financial aid forms, and will tend to be more of a liability than assets that are in the parent’s name or in certain types of trusts.
Not necessarily. It provides greater control, requires more investment and maintenance. In simpler family situations and smaller pay-outs, a UTMA custodial designation may be perfectly fine; and then you can convert to a trust down the road as your estate planning needs evolve.
The Bottom Line
It’s a good intention to leave your child as a beneficiary on your life insurance policy, but it’s as important as the intention as how it works. If insuring a minor, you must choose a custodian, establish a trust or otherwise take a concrete measure to fill the gap between you and the minor now, before you run out of time. The loophole can typically be closed with a brief chat with your insurance provider or an estate planning lawyer.
