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Divorce and protection – how to make sure your clients have the right cover

The division of assets is a critical part of a separation or divorce. While savings, investments, property and pensions can be dealt with as part of the settlement, one item that is often overlooked is any protection that either party may have – for example, life insurance or critical illness cover.

Clients may often lose valuable life, illness or income protection on divorce if joint policies are cancelled or encashed. This may leave them short of cover, especially if they have children or a mortgage to protect. So, what can be done to help separating couples ensure they remain adequately protected?

If clients have single life protection policies

Where clients have arranged individual protection in their sole name it can make the process easier. In this case, it may not be necessary to make significant changes. This is because each individual can retain their own cover.

Individuals should review their protection to ensure they still have the appropriate level of cover after the divorce, especially if there are children involved.

Separating couples may also want to change the beneficiary of their life insurance. It may well be that existing life cover is set up for the benefit of their ex-partner, and so they may wish to make changes.

Most life insurance policies give policyholders the option to classify the beneficiaries named in their policy as revocable or irrevocable.

  • Revocable – the policyholder can change the beneficiaries at a later date
  • Irrevocable – the policyholder cannot change their mind later down the line and the person named as beneficiary will legally inherit the payout (or the percentage of the payout they are entitled to if there are multiple beneficiaries). There may be an exception if the person named as the irrevocable beneficiary gives their written consent that they no longer wish to be named.

If clients have joint protection policies

If clients have a joint protection policy, there are several options depending on the type of policy and the insurer:

  • Separate it into two policies. Some insurers will allow ‘joint life policy separation’, which means that if a couple divorces or dissolve their civil partnership, the insurer may be able to cancel their existing joint policy and start a new single life policy for each life insured.
  • One individual takes over the existing policy while the other arranges a new policy for themselves if they still need cover. The person taking on the policy will pay the premiums and have sole control over who benefits from any payout (beneficiaries should be named on the policy itself).
  • The policy is cancelled, and either/both individuals take out a new single life policy appropriate to their new circumstances. However, there may be downsides to this as premiums may be higher (as both parties are older than they were when they took out the original cover). In addition, there may be health checks required (and potentially increased premiums) if either party has suffered ill health since taking out the cover.
  • The policy is encashed. Some types of life insurance – for example, whole of life insurance – may have a cash-in value. In this case, the couple may decide to encash the cover and split the proceeds.

What about mortgage life insurance?

If the clients have a joint policy to cover a mortgage, the person who gets the property should think about also taking over the existing mortgage life insurance (see above).

At this time, it is recommended that both parties review their existing cover to ensure it is appropriate for their needs. The person taking on the property may need sufficient cover to repay any mortgage, while the other party may also need protection if they are buying a home themselves, or if they have children.

Again, it is also a good time to review who is legally entitled to benefit from any policies in place.

What if a joint policy continues after divorce?

If clients have a joint life insurance policy, and they make no changes to it throughout the divorce process, the policy may still make a payout to a former spouse if they are named as the beneficiary on the policy.

This is because case law has established that ‘insurable interest’ must only exist at the point where a policy comes into force, not at the time of the loss.

If the policy is properly set up, the policyholder does not need to continue to hold an insurable interest in the life insured. This means that the contract is still legal if the policyholder has no insurable interest at the time of the death.

So, for example, it is possible to hold an insurance policy on the life of a divorced spouse.

The importance of financial advice on divorce

We have previously looked at how financial advice can be of huge benefit to clients going through a separation and divorce. We have also considered the value that financial planning provides to clients.

While it may seem obvious that clients with significant pensions or investments take financial advice when their circumstances change, protection can often be overlooked.

There are many cases where life insurance policies may simply be cancelled or transferred into a single name, potentially leaving one or both parties without essential cover.

We can help to ensure that clients going through a separation or divorce get the right advice and have the right protection in place. If you have clients that would benefit from this advice, please get in touch. Email hello@sovereign-ifa.co.uk or call 01454 416 653.

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