A life insurance application comes with numerous questions and involves making certain decisions. One important aspect is deciding who you will designate as your beneficiary and whether they will be revocable or irrevocable.
Most times, the insurance policy terms are hard to comprehend, and making these decisions can become more tricky than they should be. Some insurance applicants do not even know the difference between a revocable vs. irrevocable beneficiary in insurance.
What is the difference between revocable and irrevocable insurance beneficiaries? Why would someone choose to name an irrevocable beneficiary? What are the advantages and disadvantages of doing so?
This blog post will enlighten and guide you into making the right choice between revocable vs. irrevocable insurance beneficiary, giving you a jargon-free insurance application.
What Is A Life Insurance Beneficiary?
A life insurance beneficiary is any person or organization designated to receive the life insurance policy’s death benefit payout. Regardless of which insurance policy you are applying for, you must designate a beneficiary.
Designating your spouse or child is common in Canada. Your spouse or child ultimately receives your policy’s death benefit and tax-free lump-sum cash payment.
They can use this payout for debts, estate taxes, funeral arrangements, and everyday living expenses. Ensuring your family and loved ones are in a healthy financial position if you die is the ultimate goal.
You can name a minor as a beneficiary. However, a trustee will manage the funds on their behalf until they reach the age of majority and can legally hold the money themselves.
You can designate a charitable organization as your beneficiary as your last good deed. Also, you can select your business as your beneficiary o keep the business afloat if you pass away.
There are two types of beneficiaries: revocable and irrevocable. Generally, life insurance policies default to revocable beneficiaries. But there are some reasons one might want to designate an irrevocable beneficiary.
What Is A Revocable Beneficiary?
A revocable beneficiary is a person who can be changed or removed as the beneficiary at any time by the policyholder without their consent. This type of beneficiary designation gives the policyholder flexibility and control over who receives the death benefit payout from the life insurance policy.
If all the beneficiaries of your life insurance policy are revocable, you can freely change your policy without anyone’s permission.
For example, suppose you have two children, Jane and Joyce. You select both to receive 50% of your death benefits, and they are both revocable beneficiaries. As years go by, Jane visits more often and takes care of you than Joyce. You might decide to change your death benefit to give Jane 75%. If both children were irrevocable beneficiaries, Joyce might object to this change and not grant her consent.
What Is An Irrevocable Beneficiary?
An irrevocable beneficiary is a person who cannot be changed or removed as the beneficiary without their consent.
This type of beneficiary designation locks in the chosen beneficiary and prevents the policyholder from changing or removing them without their consent. Irrevocable beneficiaries have priority over revocable beneficiaries in case of a policy owner’s death.
In most Canadian provinces, beneficiary designations are automatically revocable unless the person specifies otherwise when they fill out the form.
In Quebec, however, if someone designates their spouse as their beneficiary, it is automatically irrevocable unless the policyholder specifies that it can be revoked when they first designate their spouse as their beneficiary.
Difference Between Revocable vs. Irrevocable Beneficiary Designation
The key difference between revocable and irrevocable beneficiary designations on an insurance policy is that revocable beneficiary designation can be changed or canceled by the policyholder at any time. In contrast, irrevocable beneficiary designations cannot be altered or canceled without the beneficiary’s consent.
Why Would Someone Choose To Name An Irrevocable Beneficiary?
There are several reasons why someone might choose to name an irrevocable beneficiary. Irrevocable beneficiaries ensure that your death benefit goes where you originally planned.
Let’s look at some scenarios where you might choose an irrevocable beneficiary.
Court-Ordered Divorce Settlement:
If there are children, child support, or alimony involved in a divorce, one policyholder can be ordered by the court to get life insurance and designate their ex-spouse as an irrevocable beneficiary.
This settlement often happens when the ex-spouse needs help paying for things like child care or education.
The settlement agreement might also say that the policyholder can’t let the policy lapse and can’t change who gets the money from the policy without getting permission from the ex-spouse.
In most cases, the ex-spouse works with a divorce lawyer to persuade the court to oblige the policyholder to designate the ex-spouse as an irrevocable beneficiary so they can secure child support and alimony.
The irrevocable beneficiary designation would prevent the policyholder from removing their former spouse as their beneficiary.
Otherwise, some persons may attempt to remove their ex-spouse from their policy without their consent due to several circumstances.
Loan Collateral: If you want to use a life insurance policy as collateral for a loan, you will need to designate the lender as an irrevocable beneficiary.
This designation guarantees the lender will be able to receive the death benefit from the policy if you die. In exchange for this designation, the lender, such as a bank, will give you money during your lifetime.
This provision allows you to benefit from the payout from your life insurance policy while you are still alive. If you repay the loan while alive, the lender will remove themselves as the beneficiary, and you will be free to make someone else your beneficiary.
Creditor protection and Peace of mind: Designating an irrevocable beneficiary ensures that a specific person or organization will receive the death benefit payout from your life insurance policy, regardless of what happens to you.
You will have peace of mind knowing that your children, spouse, and dependents are well-provided for and protected against your creditors.
Tax planning: There are estate or tax planning goals that you can only accomplish by naming an irrevocable beneficiary. For example, when it is being used as a tax strategy in connection with charitable giving.
What Are The Advantages Of Naming An Irrevocable Beneficiary?
There are several advantages of naming an irrevocable beneficiary:
- The death benefit payout from the life insurance policy will go directly to the chosen beneficiary, bypassing any potential probate proceedings.
- The policyholder cannot change or remove the designated beneficiary without the beneficiary’s consent.
- The named irrevocable beneficiary has priority over every other beneficiary in case of the policy owner’s death.
What Are The Disadvantages Of Naming An Irrevocable Beneficiary?
There are a few disadvantages to naming an irrevocable beneficiary:
- If the policyholder changes their mind about wanting to leave money to a specific individual or organization, they cannot do so without getting consent from the named beneficiary.
- If the policyholder dies while the designation is still in effect, the proceeds from the insurance policy will go directly to the named beneficiary, regardless of their will. So, if someone names their spouse as an irrevocable beneficiary but then divorces them, their spouse would still inherit any proceeds from the insurance policy.
- If something happens to the named beneficiary, it may be more difficult for whomever they chose as their contingent beneficiaries to claim inheritance rights.
How Do You Change Or Remove An Irrevocable Beneficiary Designation
It is challenging to change or remove an irrevocable beneficiary. The main point of an irrevocable beneficiary is its permanency.
An irrevocable beneficiary can only be changed or removed if the beneficiary agrees to be displaced and voluntarily surrenders their status.
To change or remove an irrevocable beneficiary designation, the policyholder must get written consent from the beneficiary. If the beneficiary is a minor, the policyholder must obtain written consent from the minor’s parent or legal guardian.
What Happens If There Is No Designated Beneficiary?
If there is no designated beneficiary, the death benefit payout from the life insurance policy will go to the policyholder’s estate. This can lead to probate proceedings, which can be costly and time-consuming.
Revocable vs. Irrevocable Beneficiary: Things to Consider When Making a Decision
When deciding to name a revocable or irrevocable beneficiary for your life insurance policy, there are several factors to consider:
Control vs. Permanence: There is always a trade-off between the “control” revocable designations offer and the “permanence” the irrevocable designation offer. Further, the named irrevocable beneficiary has priority over every other beneficiary when you die.
However, I contend that when making your life insurance policy designation, it is usually a good idea to make the primary and contingent beneficiaries revocable. This decision will let you stay in control of your life insurance policy and make it easier to change the policy if your needs and priorities change.
I firmly believe that beneficiary designations should not be permanent unless ordered by a court or you are otherwise looking to use your policy as loan collateral.
Although designating an irrevocable beneficiary may initially seem like a good idea, good relationships break down, and even the best marriages can end in divorce. So it is better to have a beneficiary designation that you can change without the hassles of getting the consent of one or multiple (perhaps scorned) people.
Final Thoughts on Revocable vs. Irrevocable Beneficiary
So, what have we learned?
An irrevocable beneficiary designation cannot be changed or removed by the policyholder without the beneficiary’s consent. This type of designation is often made when there is a court order or a strong family relationship between the beneficiary and the insured, such as parents and children.
There are several advantages to naming an irrevocable beneficiary, including ensuring that the money goes to the intended party and avoiding probate. However, there are also some disadvantages to consider before making this designation.
Ultimately, weighing all the factors involved is essential in making the best decision for your situation. Have you named an irrevocable beneficiary on your life insurance policy? Why or why not?
Hi, I'm Adeola Adegoke. I am a licensed Insurance Broker in Manitoba, and I hold a master’s degree in Mathematical Sciences (with a major in Financial Modeling) from the African Institute for Mathematical Sciences (AIMS), Tanzania.
Also, I have a second master's degree in Statistics from the University of Regina, and I am currently pursuing my Ph.D. in Statistics at the University of Manitoba.
The primary purpose of Money Reverie is to help everyday Canadians make better financial decisions by providing up-to-date financial news and information, reports, product reviews, and government programs.
