Life insurance is treated favorably in bankruptcy proceedings in most states, including Tennessee. However, the specific protections depend on the type of bankruptcy (Chapter 7 vs. Chapter 13), the type of policy (term vs. permanent), and whether state or federal exemptions are used.
For term life insurance, there is generally no asset at risk in bankruptcy because term policies have no cash value. The policy itself is not property of the bankruptcy estate, and maintaining the policy (by continuing to pay premiums) is allowed. The death benefit, if paid to a named beneficiary, is also generally protected from the insured's creditors under Tennessee law (TCA 56-7-202).
For permanent life insurance with cash value, the analysis is more complex. In Tennessee, the cash value of a life insurance policy is generally exempt from creditor claims under state exemptions. This protection can shield significant assets during bankruptcy. However, if the debtor elects federal bankruptcy exemptions (which are available as an alternative to state exemptions in Tennessee), the protections may differ.
Premium payments made to build cash value in the period leading up to bankruptcy may be scrutinized by the bankruptcy trustee. Payments made with the intent to defraud creditors (hiding assets in a life insurance policy before filing bankruptcy) may be reversed as fraudulent transfers. Normal, ongoing premium payments made as part of a longstanding insurance plan are generally not challenged.
Bankruptcy law is complex and state-specific. Tennessee residents facing bankruptcy should consult with a bankruptcy attorney who understands Tennessee's insurance exemptions to maximize the protection available for their life insurance assets.