When you file for bankruptcy, you can protect the property that you need to live, such as furnishings, clothing, a modest car, and some portion of home equity. In some cases, you can protect the value of a life insurance policy or the money you receive as a beneficiary under another person’s policy. But it will depend on a number of factors.
The two main types of policies that people own are whole life and term life insurance. A term life policy doesn’t have a cash value but pays a set amount to the named beneficiary. It would be unusual to need to worry about a term policy that you own in bankruptcy.
That’s not the case for a whole life policy, however. It accumulates cash value over time and as a result, you can take a loan against it, or you can cash it in and get money. Because of its value to you, you’ll need to determine whether you can protect it in your case (more below). You’ll also need to determine whether you can protect funds that you receive as a beneficiary of a policy.
Each state decides the property its citizens can keep in bankruptcy. You can find out whether you can protect (exempt) your life insurance policy by reviewing your state’s exemption statutes. Also, some states allow citizens to choose between the state exemptions or the federal exemption scheme.
Many states have exemptions that will cover a life insurance policy, but they each have different requirements. You’ll want to review your state statute carefully. Keep in mind that your term policy won’t have any value, so what you’ll likely be protecting will be the cash value of a whole life policy.
If you don’t have a life insurance exemption available, your state might have a wildcard exemption that you can use to protect any property of your choosing. The wildcard can be used with another exemption if the life insurance exemption is not enough to protect the policy.
The bankruptcy court will look to the date you received the life insurance funds when determining the exemption status.
You’ll also need to consider the type of bankruptcy chapter that you file.