How Do Life Insurance Payouts Work?


Life insurance policies can easily give your loved ones peace of mind and financial security when you pass away. With insurance policies, they can get help in covering some of your final expenses such as funeral costs or medical exams, or even outstanding debts that you had cosigned with someone else, along with any potential long-term care costs.

Once someone passes away, if they had a life insurance policy, their life insurance beneficiaries will receive a payout from the insurance company. However, the beneficiaries don’t have to receive a lump sum, as they can also choose to put the money in an account that will earn interest, or receive a series of payments over a period of time, depending on their personal finance choices.

Now, with a life insurance policy, the policyholder will be making premium payments to the insurer, in exchange for some type of coverage. And if the policy owner passes away while the policy is still active, then their beneficiaries will receive the coverage amount as a death benefit payout.

Do You Need Life Insurance?

Whether to get a life insurance policy or note largely depends on your situation and the state of your health. For example, if you don’t have any dependents, and you also have enough money saved up to be able to cover most of your final expenses if you pass away, you might not be in need of a policy.

On the other hand, if you have any dependents that already rely on your income for survival, which means they’ll be your primary beneficiaries, you might need to look into getting life insurance coverage. That means if you’re a stay at home parent, providing most of the child care and housekeeping tasks, if you’re the only person earning a living wage in your household, if you’re providing financial support for your aging parents, or if you’re providing financial support to your spouse, you should get some type of insurance product.

Main Types of Life Insurance Policies

There are different types of permanent life insurance policies, with one of the main differences being that some types of policies will allow you to accumulate a cash value for that policy for the rest of your life, which you can then use in different ways.

Whole Life Insurance

Whole life insurance policies are the most common types of life insurance. If you make the premium payments regularly throughout your life, then the policy will remain intact and will build up a cash value. With that cash value, you can later withdraw the funds, borrow from the insurer against that accrued value, or trade-in the value and increase the death benefits.

You should know that if you do decide to make a withdrawal, you’ll be able to make withdrawals until the value reaches zero, and that also lowers the death benefits for your loved ones.

Term Life Insurance

Term life insurance policies can provide you with certain types of coverage for a set period of time, which generally ranges between one to thirty years. The premium payments are also static throughout the duration of the policy, and if you pass away during that time, your beneficiaries will receive death benefits.

However, with these types of policies, there is no cash value that’s being accumulated, and the payout will only happen if you pass away while still having coverage.

Payout Options

In order to collect the death benefits, the beneficiaries of a life insurance policy will have to fill out a claim form. That claim is processed between a few days and a few weeks after the insurance company receives the completed claim, along with a certified copy of the death certificate. Once the claim is approved by an insurance agent, then the family members can decide how they would like to receive the payout.

A Specific Income Payout

With a specific income payout, the family members can receive a set of monthly installment payments over a period of time. This is a great way for them to ensure that all of the death benefits don’t run out too quickly. In these cases, the life insurance company puts all of the money in an interest-earning account, and the beneficiaries will have to pay taxes on the interest that’s being earned on that balance.

A Lump Sum Payout Amount

With a lump sum payment amount, the family members will be receiving the entire death benefits in a single payment. This is the most common option with many people, but if the money isn’t managed properly, usually with the help of a financial planner, it can quickly diminish. Additionally, since bank account balances are only covered up to $250,000 from the Federal Deposit Insurance Corporation, the family members might have to put the money in a few different accounts if that payout goes over the amount.

A Retained Asset Account

Insurance companies that offer a retained asset account option allow the payout to go into an interest-bearing account. Then, the family members will get a checkbook if they want to access the money, and any of the interest that the sum earned is going to be subject to income tax. Additionally, unlike the previous option, the insurance company can guarantee the balance in the account, even if it goes over the Federal Deposit Insurance Corporation’s $250,000 limit.

An Annuity

The last option is an annuity, also referred to as a life income payout. With this option, the family members will receive guaranteed payments as long as they’re alive. The insurance company will use the beneficiaries’ ages when they’re filing the claim for the payout and will determine the death benefit amount accordingly. If there is any life insurance death benefit amount that’s left remaining because a beneficiary has passed away, it will go back into the insurance company, unless the family member has decided to only receive the annuity over a set period of time. If that’s the case, any amount of the death benefit that is left over will then belong to their designated beneficiaries.

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Life Insurance Payouts FAQ

Should beneficiaries file any other claims to receive death benefits?

In most cases, insurance companies are mainly looking for a death certificate and a death claim, however, some might require a benefits claim as well.

Are there cases where beneficiaries don’t receive death benefits?

There are some cases when the policyholder passes away within two years of taking out a life insurance policy. In those cases, the death benefits may be delayed because of a contestability period, and in some cases, the insurance company can even launch its own investigation if the company has additional questions about the death of the insured.

Can there be more than one beneficiary?

Although the insured only has to put down a primary beneficiary in the policy, they can also designate a secondary beneficiary if they see it fit. However, the primary beneficiary is responsible for filing all of the claims.

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