General Life Insurance Topics
Why Spendthrift Clause
Ron and Mary (names changed to protect the innocent) had been married for over twenty-five years. They were the parents of one boy who had trouble from the beginning of his school career all the way through high school in making friends. He just didn’t seem to fit in with any particular group of kids so he just floated from one group to another doing whatever seemed to be cool at the time. When he turned 18, he discovered partying where he felt he was of some worth to his friends because he would use his allowance to provide as much of the drinks and drugs as he could. It got to the point where he could not keep up with the expensive lifestyle and began taking money out of the cash register at the local grocery store where he worked part time after school and on the weekends.
As fate would have it Ron and Mary found themselves on different ends of the spectrum as to how to handle Chuck, and the conflict became so intense they divorced. Mary remarried and Ron moved to the east coast. Somewhere along the way and totally unexplainable, Ron purchased a life insurance policy on his life and made Chuck the beneficiary. Whether he did this out of remorse or thinking he might be able to make amends will never be known, for unfortunately just a few years after he purchased the policy, he was diagnosed with cancer and passed away suddenly.
When the estate was settled the life insurance policy with Chuck as beneficiary was discovered, and the proceeds of $80,000 was made available to him. Chuck was now 24 years old living with a friend who it turns out was not a character of good report. Though his mother tried to advise Chuck to seek professional counsel on how to invest the money, the friend convinced Chuck to take the funds in a lump sum settlement and have them deposited in a local bank.
Ecstatic over his new found wealth and popularity, Chuck paid cash for a new Corvette and along with new found friends took a trip to California. Living high on the hog for four months, Chuck squandered the money. His friends disappeared and he found himself living out of his Corvette. The lifestyle along with his dependency on drugs made it impossible for him to get a job, so he sold his Corvette and bought a ticket on a Greyhound bus to take him home. He took the money from the sale of his Corvette and put it in the bank. When his creditors garnished the bank account, Chuck disappeared.
What went wrong ? How could his scenario have been avoided?
If Ron could have seen and acknowledged how this tremendous influx of money would impact his son, he could have arranged to have them made available to him in a different manner. By simply maintaining ownership in the policy and making an insurance trust the beneficiary to receive the funds, while naming Chuck as beneficiary of the trust, the unfortunate spending of the funds would have been avoided. Even if Chuck ran up a huge debt through use of credit cards, the funds would have been protected due to the spendthrift provision in the trust. This provision is to keep those to whom the beneficiary owes money from being able to collect beyond the ability of the beneficiary to collect.
Usually the payout from a trust is done by regular equal intervals of payments so the only amount the beneficiary can legitimately claim as his or her own is that regular payment. The proceeds of the trust will eventually get paid out but until then they remain as legal property of the trust.
This same protection could have been provided if the funds from the life insurance death benefit had been assigned in the settlement option as a certain amount each payment. The beneficiary could still be the son; but the owner, who had the right to designate the beneficiary and how the death benefit would be paid upon death limited the son as beneficiary to receive the proceeds at a certain amount, safeguarded the proceeds from the creditor intrusion. This is made possible in the life insurance contract through what some companies refer to as the provision of “claims of creditors” while others refer to it as the spendthrift clause provision. Again, just like the trust, only the amount paid out at intervals designated will ever be subject to seizure.