Until recently when a debtor filed a chapter 7 bankruptcy he would not be able to exempt (protect from his creditors) the cash surrender value of his life insurance policy. If the debtor did not have enough room on his Homestead Deed, then he would have to turn over the cash value of his insurance policy to the trustee to administer for the benefit of the creditors. Also, the law provided exemptions for ERISA qualified retirement plans and IRAs; but no protection for annuities. In March of 2016 Virginia enacted legislation to amend Virginia Code section 38.2-3122 to increase the level of protection available to consumers and debtors to protect the values of their life insurance and annuity policies from their creditors.
Previously, only life insurance proceeds were protected from creditors if the beneficiary was someone other than the insured, unless the beneficiary predeceased the insured; and the beneficiary was irrevocable. The old law offered almost no protection against creditors trying to seize the proceeds of a life insurance policy.
The new statute greatly expands the protection against creditors to the extent that it not only protects the proceeds of the life or annuity policy; but also the cash value of the policy, withdrawal value of any optional settlement or deposit, and “all other benefits, indemnities, payments and privileges of any kind from such policy.”
Under the old law, the creditor protections did not apply if the beneficiary was the insured. The new law allows the exemption to follow through to (1) the person whose life is insured, (2) the beneficiary of the insured if said beneficiary is the spouse, intended spouse, child or otherwise dependent on the insured; and (3) the owner of the policy, and (4) the person who effected the policy.
There are three exceptions where the protections against creditor collections do not apply. First, the debtor may voluntarily assign his interest in the policy to one or more of his creditors. Second, if the debtor commits fraud in opening or paying for the policy. Third, if the person claiming the exemption files for bankruptcy or is declared insolvent within six months of the policy being issued or effected.
The new law makes it clear that the protections from creditors applies to polices where the (1) insured retains the right to change the beneficiary; and (2) where the insured or owner is also the beneficiary. It would seem that funds derived from life insurance policies and annuities are protected from creditor actions unless there was fraud involved, a voluntary pledging of the asset, or bankruptcy filing within six months of issue.
Unfortunately, the legislators left a glaring contradiction in the Virginia Code, which could potentially void the entire statute. Section 38.2-3122 (F) states, “The exemption established by this section shall apply to a protected insurance item regardless of whether (i) the right to change the beneficiary thereof is reserved or permitted . . .” The very next code section, Section 38.2-3123, states, “In the case of policies under the terms of which the right to change the beneficiary is reserved and as to which the cash surrender value or loan value of the policy is claimed by the creditors, the insurance shall not be permitted to protection afforded . . .”
It is clear from the legislative history that the Lawmakers intended that all moneys related to life insurance and annuity polies be exempted and protected from creditor collection actions as to both the insured and beneficiaries. Hopefully the courts will ultimately interpret these statutes in that manner; or, even better, the Legislature will repeal section 38.2-3123 of the Virginia Code.