Many life insurance policies have summary plan descriptions ("SPDs") that require or recommend policyholders name a beneficiary to their policy at the time of the policy’s inception. Married persons seldom give the designation much thought. They simply name their spouse as the beneficiary; changing beneficiaries again never crosses their minds. However, in Illinois a policyholder must carefully consider the effect (or lack thereof) a divorce decree has on his or her life insurance policy. Failure to change a beneficiary designation with the insurer according to the terms of the plan can result in the insurer paying out to an unintended recipient, which could leave a large life insurance policyholder rolling over in his grave.
Marital settlement agreements generally contain a provision that addresses death benefits. In many cases under the provision, one or both spouses waive their interest in the other spouse’s employer benefits, such as retirement accounts or life insurance policy proceeds. The intent of these provisions is to divest an ex-spouse of any interest in all benefits associated with the policyholder’s employment.
It is not uncommon for marital settlement agreements between parties with minor children to contain a provision in which the non-custodial parent (and/or custodial parent) is required to maintain a life insurance policy for the minor children’s benefit, provided he or she is providing financial support for those children. Such provisions aim to secure the child support obligation so that the children do not suffer the loss of financial support if one parent dies. In this situation, either the ex-spouse is named as the life insurance policy beneficiary (as the trustee for the minor children) or the children are named as beneficiaries themselves. A similar provision could also secure a maintenance obligation to an ex-spouse, or secure payment on a mortgage or other liability incurred during the marriage.
Unfortunately, the life insurance provisions of a marital settlement agreement can be rendered void and unenforceable if they conflict with the terms of the life insurance plan’s SPD. An SPD is a comprehensive description of the benefit plan and is distributed to all potential participants prior to their enrollment in the plan. SPDs generally contain very specific language addressing the procedure for paying out on a policy and how to designate, change and revoke beneficiaries—. Insurance companies create these rigid policy specifications to avoid the liability associated with paying out to an improper beneficiary.
The procedure for paying out on a life insurance policy after a policyholder dies is simple in most cases. The insurer notifies the designated beneficiary of the policy’s existence at the time of the decedent’s death, and tells him that he is the named beneficiary (or one of the named beneficiaries). The insurer notifies all named beneficiaries and also notifies the estate, depending on the requirements of the SPD. The decedent’s estate or another party files a competing claim with the insurance company alleging that the beneficiary(ies) should not be paid out on the policy, then the insurer’s own legal depart first attempts to resolve the issue on its own. The insurer reviews each claim, supporting document and the applicable case law and sends rejection and award letters to the parties, allowing each of the claimants time to appeal any denials. If the competing claims continue and the claimant who is ultimately denied files suit against the insurer and/or the rival claimant, the insurer deposits the proceeds with the court through an interpleader action in order to be dismissed as a party. This leaves the rival claimants to litigate the issue and the court to render the ultimate decision on who is paid out on the policy.
When the issue of who is the appropriate recipient of a life insurance policy reaches the court, the court must decide what effect, if any, the marital settlement agreement has on the policy proceeds. The entry of a judgment for dissolution of marriage generally does not automatically revoke an ex-spouse’s right to be named as a beneficiary on the other spouse’s life insurance policy. Specifically, courts have held that a divorce decree does not terminate the property rights of a husband and wife that exist independently of the marriage.1 However, some states have adopted divestiture statutes whereby a spouse’s beneficiary status is automatically terminated by entry of a judgment for dissolution of marriage. Illinois is not one of those states, meaning an ex-spouse can be a beneficiary of a life insurance policy if the policyholder names his ex-spouse as the beneficiary after the divorce and does not take the affirmative steps to properly change his beneficiary designation.
Federal and state courts often disagree over the effect that divorce decrees have on life insurance policy beneficiary designations. State courts generally analyze what type of waiver language contained within a marital settlement agreement will sufficiently waive an ex-spouse’s interest in life insurance proceeds. State courts have also debated whether imposing a constructive trust on life insurance proceeds is an appropriate remedy where a party, other than the designated beneficiary, has a superior right in equity to the proceeds of a policy (such as the case with securing a child support obligation). The federal courts, on the other hand, must determine how to handle a conflict between the terms of the life insurance plan as regulated by the Employee Retirement Income Security Act of 1974 (ERISA) and the state law as described above.
ERISA is a federal statute enacted to protect employee benefit participants and their beneficiaries by requiring employers to disclose certain information and abide by certain standards of conduct with respect to managing benefits. ERISA also allows employees access to federal courts when litigating benefits-related issues. While most employer benefits are governed by ERISA, policies which do not require financial security or administration from the employer likely are not governed by ERISA.
The United States Supreme Court recently ended the debate over the effect of a divorce decree on beneficiary designations as they relate to ERISA-governed plans.2 In Kennedy, the decedent named his wife as the beneficiary of his ERISA governed plan with no contingent beneficiary. Although their subsequent divorce decree divested the wife of her interest in the policy, the husband did not execute any document removing the wife as his beneficiary. When the policyholder distributed the funds to the wife, the estate filed suit. The Supreme Court held that plan administrators acted properly when they paid out the benefits consistent with the terms of the plan and disregarded the waiver language in the decedent’s marital settlement agreement.3 According to the Court in Kennedy, if the plan documents require a policyholder to remove his ex-spouse as a beneficiary, and if he does not wish for her to be the beneficiary, the estate (or other rival claimant) cannot sue the plan administrator for distributing the proceeds to the ex-spouse despite any waiver language included in the divorce decree.4 The Court held that the only effective language from a marital settlement agreement would be one in which an ex-spouse assigned the beneficiary designation to another person. The Supreme Court then reiterated that a Qualified Domestic Relations Order (QDRO) is the only state order exempt from the requirements of ERISA.5
The ruling in Kennedy binds plan administrators to pay out according to the terms of the plan, as required under ERISA.6 While ERISA allows for assignment or alienation of a beneficiary designation, a divorce decree which only contains a waiver of benefits is not an assignment or alienation because it does not name the estate or another person as the new beneficiary. And because ERISA does not allow for a waiver of benefits, even if the employee spouse designates a new beneficiary later on, the employee must also simultaneously revoke the ex-spouse beneficiary designation in order to effectively change beneficiaries.
The holding in Kennedy clarifies the issues surrounding beneficiary designations under ERISA-governed life insurance plans and leaves the decision of how to distribute benefits to the administrator of the plan. Kennedy allows life insurance companies to issue proceeds to the party named as the beneficiary without having to analyze the terms of the divorce decree and without running the risk of liability for paying out to the wrong person. Kennedy directs the policy’s SPD to control distribution of the benefits, which should reduce litigation in this area.7 In essence, the Supreme Court wanted the decision-making power to remain in the hands of the plan administrators, and not with the courts . This is consistent with ERISA’s goal of enabling employers "to establish a uniform administrative scheme, which provides a set of standard procedures to guide processing of claims and disbursement of benefits."8 In this way, the ruling in Kennedy protects beneficiaries of ERISA plans.
The decision in Kennedy was not a surprise, as many previous federal decisions have been consistent with Kennedy. In 2001 the Supreme Court held that, despite a Washington state statute that automatically revoked an ex-spouse’s interest in an employee benefit plan upon divorce, an ex-spouse could still be paid out on a plan governed by ERISA.9 The court cited ERISA’s pre-emption section, 29 U.S.C. 1144(a), which states that ERISA "shall supersede any and all State laws insofar as they may now or hereafter relate to any employee benefit plan" covered by ERISA.10
Additionally in 2003, the Seventh Circuit held that ERISA preempts Illinois family law and that a state law cannot invalidate an ERISA plan beneficiary designation by mandating distribution to another person, despite Illinois’ constructive trust law.11 In that case, the decedent’s divorce decree required the decedent to maintain a life insurance policy naming his daughter as beneficiary in order to secure his child support obligation. However, instead of naming his daughter as the beneficiary to his ERISA governed policy, the decedent named his second wife (who at the time of his death was his ex-wife). The decedent’s daughter sought to impose a constructive trust upon the life insurance proceeds. When the ex-wife removed the case from state court to federal court on the basis that there was a federal question at issue, the federal court held that despite the provisions of the divorce decree, the proper payee was the named beneficiary, namely, the ex-wife.12
Although the above cases have resolved the issue for ERISA-governed plans, non-ERISA plans are still left in limbo, meaning interpleader actions and litigation will continue to occur anytime there are competing claims for life insurance proceeds after a marital settlement agreement has been executed. And while ERISA originally governed most employer benefit plans, new types of life insurance policies are becoming more and more popular. The fact that ERISA does not govern such plans is a feature that attracts employers to them.
For example, Group Universal Life (GUL) insurance is a type of coverage similar to whole life insurance, offering a cash account in addition to flexible premiums. GUL policies are funded entirely by the employee without any employer contribution. They are often managed and administered by the insurance company and not by the employer. In fact, employers have very little involvement with the policy, and the primary benefit they are offering to the employee is a group discount. For these reasons, employers are not required to complete ERISA filings or to comply with the stringent regulations of ERISA.
For non-ERISA life insurance plans like GUL policies, divorce decrees can affect the rights of a divorced spouse’s beneficiary designation if the settlement agreement contains a waiver of someone’s interest in a life insurance policy. To determine the effect of a waiver, the court has held that two factors must be considered: (1) whether or not the policy was specifically disclosed in the settlement agreement and awarded to a spouse; and (2) whether or not the waiver provision contained in the marital settlement agreement specifically states that the party is waiving an expectancy or beneficial interest in the policy.13 The test is whether a reasonable person would understand that she is waiving her interest in the asset.14
Given this test for determining the affect of a divorce decree on a beneficiary designation, it is well accepted that a general waiver of all property rights, contained in nearly all marital settlement agreements, will not sufficiently waive an ex-spouse’s interest in a life insurance policy. However, the court has held that an agreement that does not specifically mention a particular policy owned by the party, but contains a waiver of an expectancy interest in a life insurance policy, was sufficient to waive the ex-spouse’s interest in the life insurance proceeds.15
Life insurance policies not governed by ERISA may also have a different outcome in an interpleader action by a claimant seeking to impose a constructive trust on the proceeds. If a settlement agreement or divorce decree requires the decedent to maintain a life insurance policy naming a person other than the named beneficiary as the recipient of the policy, then a constructive trust can, in fact, be imposed. Specifically, Illinois courts have held that equity requires the proceeds be paid to the persons who should have been named as beneficiaries and only a claimant with a superior right could be paid over the person who was supposed to be named as the beneficiary according to a marital settlement agreement.16
In light of the growth in popularity of GUL policies and other plans not subject to the regulation of ERISA, one cannot rely on the holdings in Melton, Egelhoff, or Kennedy to control who an insurer pays the proceeds of a life insurance policy to. While a marital settlement agreement is designed to dispose of all property issues between the parties, life insurance proceeds are an expectancy interest, and Illinois’ lack of a divestiture statute allows ex-spouses to be the beneficiary of such policies. Because clients are rarely aware of whether their policy is governed by ERISA or not, attorneys should always advise their clients to keep their beneficiary designation current and to always follow the terms of the policy’s plan. A court’s interpretation is not a desirable substitute for the intent of the parties.
1 Leahy v. Leahy-Schuett, 211 Ill. App. 3d 394 (1st Dist. 1991)
2 Kennedy v. Plan Administrator for DuPont Savings and Investment Plan, 555 U.S.____ (2009).
6 29 U.S.C. §1144
8 Egelhoff v. Egelhoff, 532 U.S. 141, 148 (2001).
11 Melton v. Melton, 324 F.3d 941, (7th Cir. 2003).
13 See Leahy, 211 Ill.App.3d at 400; and Velasquez v. Velasquez, 295 Ill.App.3d 350, 353 (1998).
14 See Clift v. Clift, 210 F.3d 268, (5th Cir. 2000).
15 Principal Mutual Life Insurance Co. v. Juntunen, 189 Ill.App.3d 224, 228 (1st Dist. 1989).
16 Schwass By and Through Postillion v. Schwass, 126 Ill.App.3d 512, (1st Dist. 1984).
Lisa M. Giese is an associate with the law firm of Anderson & Associates, P.C., concentrating her practice in matrimonial and bankruptcy law. Lisa received her undergraduate degree at Michigan State University’s James Madison College and her law degree at Loyola University Chicago, earning a certificate in Child and Family Law upon graduation. Lisa is a trained Guardian ad Litem with the Eighteenth Judicial Circuit Court and serves a director for the DuPage Association of Women Lawyers. Lisa has also volunteered for many years with the Court Appointed Special Advocate (CASA) program.