What happens to life insurance benefits I receive after filing for bankruptcy?

In determining what happens to life insurance proceeds in a bankruptcy filing, the first and most important question is whether you are filing a Chapter 7 bankruptcy or a Chapter 13 bankruptcy. In a Chapter 13 bankruptcy, you are not required to turn over any assets, including money in the bank or money that comes from a life insurance policy. However, if you are filing a Chapter 7, or “total liquidation,” bankruptcy all assets that are not Chapter 7 bankruptcy exemptions will need to be turned over to the trustee to distribute to your creditors. This can include some or all of the life insurance proceeds, depending on the situation.

Life Insurance Proceeds and Chapter 7 Bankruptcy Exemptions

Any inheritance or life insurance proceeds you receive within 180 days of filing Chapter 7 bankruptcy is part of the bankruptcy estate, which means that the life insurance proceeds could be seized to pay creditors. However, the state exemptions and federal exemptions available in your state could reduce the amount that the bankruptcy trustee is authorized to receive:

• If you chose the federal bankruptcy exemptions when you filed, life insurance proceeds paid because of the death of someone you depended on for support would be exempt to the extent reasonably necessary for your support and the support of your dependents.
• If you chose your state bankruptcy exemptions (or if your state doesn’t allow someone to choose between federal and state exemptions), you may find that life insurance proceeds are fully or partially exempt.

While the federal exemptions are the same throughout all 50 states, the state exemptions can vary- sometimes significantly. Unfortunately, changes to the bankruptcy code in 2005 put an end to the practice of “shopping” for a state that had favorable Chapter 7 bankruptcy exemptions, and residency requirements now require you to follow the exemption rules of the state where you live. As such, you will need to find out what those specific rules are if you had filed your case and used those state exemptions instead of the federal ones.

In any case, it is important to consult with a Chapter 7 bankruptcy lawyer in your state as soon as possible after you learn that you will be receiving the life insurance proceeds. Your Chapter 7 bankruptcy lawyer can advise you on how best to proceed to hang on to as much of the life insurance as possible, and can assist you in meeting your obligation to your creditors and the bankruptcy court.

Case Studies: Life Insurance Benefits and Bankruptcy

Case Study 1: John’s Chapter 13 Bankruptcy

John is filing for Chapter 13 bankruptcy and has a life insurance policy. In this type of bankruptcy, individuals are not required to surrender any assets, including life insurance proceeds. Therefore, John’s life insurance benefits will not be affected by the bankruptcy filing.

Case Study 2: Sarah’s Chapter 7 Bankruptcy

Sarah is filing for Chapter 7 bankruptcy, also known as “total liquidation.” She has recently received life insurance proceeds within 180 days of filing. In a Chapter 7 bankruptcy, non-exempt assets must be turned over to the trustee for distribution to creditors. Whether Sarah’s life insurance proceeds will be included depends on various factors, including the exemptions available in her state.

State exemptions and federal exemptions may limit the amount that the bankruptcy trustee can seize from life insurance proceeds. However, residency requirements now mandate following the exemption rules of the state where the individual resides.

It is crucial for Sarah to consult with a Chapter 7 bankruptcy lawyer in her state to understand the specific rules and explore strategies to protect as much of her life insurance benefits as possible while meeting her obligations to creditors and the bankruptcy court.

Case Study 3: Mark’s State Exemptions

Mark, who resides in a state with favorable Chapter 7 bankruptcy exemptions, received life insurance proceeds and filed for bankruptcy. Before 2005, individuals could choose states with advantageous exemptions, but changes to the bankruptcy code now require adhering to the exemptions of the state where the person resides. Mark had filed his case and used the state exemptions instead of federal ones.

Mark’s case highlights the importance of understanding the exemption rules applicable to your state. By consulting with a Chapter 7 bankruptcy lawyer, Mark can receive guidance on maximizing the protection of his life insurance benefits while fulfilling his obligations to creditors and the bankruptcy court.