Why Naming a Contingent Beneficiary on Your Life Insurance Matters

When completing a life insurance application, most people spend considerably more time deciding how much insurance to buy than deciding exactly how the beneficiary designation should be structured.

Naming a spouse, partner, child, or another family member as a beneficiary may seem straightforward. But there is another question that is easy to overlook: What happens if one or more of your primary beneficiaries are no longer alive when the death benefit becomes payable?

That is where a contingent beneficiary becomes important.

The easiest way to understand a contingent beneficiary is as the person or organization that is next in line to receive all or part of the life insurance proceeds if a primary beneficiary cannot receive them.

It is a relatively simple designation, but it can prevent your life insurance proceeds from being distributed differently from what you intended.

Primary and Contingent Beneficiaries Are Not the Same

Your primary beneficiaries are first in line to receive the life insurance death benefit.

You may name one person, several people, a trust, a charity, or another eligible organization. A life insurance policy is not limited to one primary beneficiary.

When more than one beneficiary is named, the death benefit is normally divided according to percentages. For example, a policy could be divided among three primary beneficiaries as follows:

• Beneficiary A: 50 percent

• Beneficiary B: 30 percent

• Beneficiary C: 20 percent

The percentages allocated to the primary beneficiaries must generally total 100 percent. The same principle applies if you name more than one contingent beneficiary.

A contingent beneficiary provides the next level of instructions. That person or organization does not receive any proceeds while the applicable primary beneficiary or beneficiaries remain entitled to receive them.

The Financial Consumer Agency of Canada recommends considering a contingent beneficiary who can receive the death benefit if a primary beneficiary dies before you or at the same time as you.

Beneficiary Designations Can Usually Be Changed

Naming a contingent beneficiary does not mean that your beneficiary choices are permanent.

When a beneficiary is designated as revocable, the policy owner can generally change or remove that beneficiary without obtaining the beneficiary’s permission. This allows the designation to be updated after a marriage, separation, death, birth, or another significant family change.

An irrevocable beneficiary is different. The written consent of that beneficiary is generally required before the designation can be changed or certain policy rights can be exercised.

It is therefore important to know whether the beneficiaries currently named on your policy are revocable or irrevocable before attempting to make a change.

What Happens If a Primary Beneficiary Dies Before You?

If a primary beneficiary dies before you, the ideal response is to review your policy and submit an updated beneficiary designation.

However, people sometimes forget to make the change, particularly when a policy was purchased 10 or 20 years earlier. It is also possible for the insured person and a beneficiary to die at the same time or close together.

These are situations in which a contingent beneficiary becomes particularly important.

If only one primary beneficiary was named and that person dies before the insured, a properly designated contingent beneficiary may become entitled to the death benefit.

If no living contingent beneficiary has been named, the death benefit will generally become payable to the estate after the insured person dies.

Consider a Simple Family Example

Suppose you name your spouse as the sole primary beneficiary because the insurance is intended to replace your income, pay debts, and help support the family if you die.

You also name your two children as contingent beneficiaries, with each child entitled to 50 percent.

If your spouse is alive when you die, your spouse receives the death benefit. The children do not receive anything under the contingent designation.

Now imagine that your spouse dies before you. Ideally, you would update the beneficiary designation at that time. But if you forget and later die, the children can move into the beneficiary position under the contingent designation.

Without living contingent beneficiaries, the proceeds could instead become payable to your estate.

This example is straightforward because there was only one primary beneficiary. When several primary beneficiaries are named, the result can be more complicated.

What If There Is More Than One Primary Beneficiary?

If multiple primary beneficiaries have been named and one dies before the insured, the outcome depends on the wording of the beneficiary designation, the insurer’s form, the policy contract, and the applicable law.

There are two important structures you may encounter.

The Deceased Beneficiary’s Share Is Divided Among the Remaining Primary Beneficiaries

Under this structure, contingent beneficiaries do not receive anything while at least one primary beneficiary remains alive. Instead, the deceased primary beneficiary’s share is divided among the remaining primary beneficiaries.

Suppose the original designation is:

• Beneficiary A: 50 percent

• Beneficiary B: 30 percent

• Beneficiary C: 20 percent

If Beneficiary A dies before the insured, A’s 50 percent share may be divided equally between B and C.

Each surviving beneficiary receives half of A’s share, which is 25 percent. The final distribution would therefore be:

• Beneficiary B: 30 percent plus 25 percent, for a total of 55 percent

• Beneficiary C: 20 percent plus 25 percent, for a total of 45 percent

The entire death benefit is not reset to 50 percent for each survivor. It is the deceased beneficiary’s share that is divided equally between them.

Manulife’s individual life insurance beneficiary form uses this approach unless the policy owner specifies otherwise. It states that when a beneficiary dies before the benefit becomes payable, that person’s share is allocated equally among the surviving beneficiaries in the same class.

The same form explains that contingent beneficiaries receive the proceeds only when no primary beneficiary remains alive.

A Contingent Beneficiary Replaces a Particular Primary Beneficiary

Other beneficiary structures allow a contingent beneficiary to be connected to the share of a specific primary beneficiary.

Suppose the designation is:

• Primary Beneficiary A: 50 percent

• Primary Beneficiary B: 30 percent

• Primary Beneficiary C: 20 percent

• Contingent beneficiary replacing A: Beneficiary D

If A dies before the insured, D receives A’s 50 percent share. The final distribution would be:

• Beneficiary D: 50 percent

• Beneficiary B: 30 percent

• Beneficiary C: 20 percent

In this structure, the surviving primary beneficiaries retain their original percentages, while the contingent beneficiary replaces the deceased primary beneficiary for that particular share.

iA Financial Group explains that, for most applicable products, a contingent beneficiary may be designated in replacement of a deceased beneficiary. The portion allocated to the deceased beneficiary is then paid to that contingent beneficiary.

This produces a very different result from a designation where contingent beneficiaries receive proceeds only after every primary beneficiary has died.

There is no single assumption that should be applied to every policy. The beneficiary form, policy wording, percentages, and applicable law must be reviewed together.

What If You and Your Beneficiary Die at the Same Time?

Another important scenario is when the insured and a beneficiary die in the same accident, or when it is impossible to determine who died first.

Ontario insurance legislation generally treats the proceeds as though the beneficiary died before the insured unless the insurance contract or beneficiary declaration provides otherwise.

This is one of the clearest reasons to name contingent beneficiaries. It provides another set of instructions for the insurer rather than leaving the outcome entirely to statutory default rules or the estate.

A survivorship or common-disaster provision may also be worth discussing with a lawyer when the order of death could materially affect the estate plan.

What Happens If No Beneficiary Is Available?

If there is no living primary or contingent beneficiary entitled to receive the proceeds, the death benefit will generally become payable to the insured person’s estate.

Under Ontario’s Insurance Act, if a beneficiary dies before the insured and no other instructions have been provided for that share, the share generally passes to the surviving beneficiary or beneficiaries. If there is no surviving beneficiary, the proceeds are generally payable through the insured person’s estate after death.

This is important because a properly designated living beneficiary normally receives life insurance proceeds directly. The death benefit does not generally pass through the estate or require probate before it can be paid to that beneficiary. It also normally remains separate from claims made by creditors of the estate.

If the proceeds become payable to the estate, some of those advantages may be lost. The money may be delayed by the estate administration process, included when probate or estate administration fees are calculated, and exposed to claims from creditors of the estate.

The death benefit itself is still generally received tax-free. The problem is not that the insurance suddenly becomes taxable. The problem is that the proceeds lose the direct and more private transfer that a properly structured beneficiary designation can provide.

Sun Life similarly explains that when a beneficiary dies and no contingent beneficiary has been named, the money will typically go to the estate and may become tied up in probate or exposed to creditor claims.

What If a Contingent Beneficiary Is a Minor?

Naming children as contingent beneficiaries is common, but additional planning is required when those children are still minors.

A minor can be named as a life insurance beneficiary, but insurance proceeds generally cannot be paid directly to a minor. A trustee or properly established trust may be needed to receive and manage the money on the child’s behalf.

Naming a child as a contingent beneficiary therefore answers the question of who should receive the proceeds next, but it does not automatically resolve how the money should be managed while the child is under the age of majority.

For a more detailed explanation of trustees, trusts, and what can happen when no appropriate arrangements have been made, read Should You Name a Minor Child as the Beneficiary of Your Life Insurance?

Families with minor children should consider coordinating their beneficiary designations with their wills and obtaining appropriate legal advice.

Beneficiary Designations Should Not Be Set and Forgotten

A life insurance policy may remain in force for decades, but the original beneficiary designation may no longer reflect the policy owner’s wishes.

People marry, separate, have children and grandchildren, lose family members, establish new relationships, and change their estate plans.

Beneficiary designations should be reviewed after any significant life event and periodically throughout the life of the policy. The review should confirm:

• Who is currently named as a primary beneficiary

• What percentage each primary beneficiary receives

• Whether contingent beneficiaries have been named

• Whether the contingents apply only when no primary beneficiary survives or replace specific primary beneficiaries

• Whether any beneficiary is a minor

• Whether any designation is irrevocable

A Small Detail That Can Have a Large Impact

Naming a contingent beneficiary does not change the amount of life insurance you own or the premium you pay. It simply provides further instructions about who should receive the proceeds if a primary beneficiary cannot.

That makes it a small part of the insurance application with potentially significant consequences.

If you already have life insurance, it is worth checking not only who your primary beneficiaries are, but whether you have contingent beneficiaries and exactly how those designations work.

Pedro Diaz Ramos can help you review your existing life insurance policies and beneficiary designations, identify information that may need updating, and explain when a beneficiary matter should also be discussed with a lawyer or estate-planning professional.