When a person declares bankruptcy, certain assets are protected. The individual’s life insurance is one that may be protected by law. (The person’s house is another example of an asset that may be held exempt from creditors under federal and state laws.) Certain types of life insurance are not affected by bankruptcy, while others are subject to different rules. To obtain online insurance quotes use the free tool on this page now!
Insurance Policy and Bankruptcy
A term life insurance policy, which provides protection for a specified term only, does not accumulate a cash value over time. This type of financial product is exempt from assets during bankruptcy proceedings. A universal life insurance policy works in a different manner. Not only does it pay out a death benefit, but it also accumulates a cash value as well. A portion of the premiums paid for the insurance is invested by the insurance company. The money in the fund may be used as collateral for a loan.
The way the cash value of an insurance policy is treated varies, depending on the state where the person declaring bankruptcy lives. In some parts of the United States, the policy must have been in effect for at least 12 or 24 months for the money to be exempt from creditors. The cash value is protected so long as the funds remain as part of the insurance policy; cashing in the insurance before declaring bankruptcy may leave the funds open to being taken to pay creditors.
In some states, such as Florida, a person declaring bankruptcy can only protect the cash value of an insurance policy on the individual’s own life. If an insurance policy is taken out on the bankrupt person’s spouse, its cash value is not protected from creditors.
Federal and State Laws and Bankruptcy
Under federal law, an individual can choose to protect a total of up to $10,775 of the cash value accumulated in a life insurance policy. If a married couple is declaring bankruptcy, the amount that can be protected is doubled. The law is written to allow states to choose to opt out of the federal regulations for bankruptcy laws and impose their own rules for people in this situation. In other parts of the country, a person who is declaring bankruptcy can choose whether they want the process conducted under federal or state rules.
A person who is considering filing for bankruptcy should consult an attorney who is familiar with this area of law to get information about their rights and responsibilities. The attorney will need to know the particulars of any life insurance policies that are in place, including the amount of any cash value that has accumulated in the policy. Then he or she will be able to provide appropriate advice for the client’s individual situation, including whether the client will get more benefits under federal or state bankruptcy laws.
Buying Life Insurance after Bankruptcy
If a person in bankruptcy has an existing life insurance policy, the best choice is to keep the policy in force. The bankruptcy will stay on that person’s credit report for between 7 and 10 years, and this information is available anytime that individual applies for any type of financial product, including life insurance. Declaring bankruptcy can have a negative effect on life insurance rates, since insurers do consider an applicant’s credit rating as part of this process.
Since life insurance rates increase as an applicant ages, waiting until the bankruptcy notation disappears off the credit report is not the best choice for consumers. The reason to buy life insurance is to provide financial protection for the individual’s beneficiaries after the policyholder dies. The death benefit can be used to replace the policyholder’s income after death and the funds can be used for rent, mortgage payments, child care, or everyday expenses.
To put this valuable protection in place after bankruptcy, the most economical choice is to buy a term life insurance policy. This is the least expensive type of life insurance available, since it does not provide a benefit over the policyholder’s lifetime. Choosing a life insurance policy for a term of 5 or 10 years is relatively inexpensive, depending on the level of coverage desired.
How bankruptcy affects life insurance depends on the type of policy held and how long it has been in effect. The individual will need to get expert advice to decide whether they will be at a greater advantage under state or federal laws to protect as many of their assets as possible. Enter your zip code at the prompt to get life insurance rates from various providers now!