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Sunday, July 08, 2018

Supreme Court Upholds Changes to Beneficiaries Upon Divorce

Married persons often name the other spouse as beneficiaries of their estate, life insurance, pensions, IRA’s, annuities and other contractual arrangements upon the death of the first spouse. Upon divorce, they often do not get around to changing these beneficiary designations, either intentionally or unintentionally. Many state legislatures have reached the conclusion that the spouse that died would likely have wanted to change the beneficiary from the former spouse, but just never got around to it (whether intentionally via procrastination or unintentionally). They have enacted revocation-on-divorce statutes that treat a divorce as voiding one or more of testamentary bequests and beneficiary designations. In 2002, Minnesota adopted such a statute that applied to will and various will substitutes, including life insurance and annuity contracts.

The Contracts Clause of the U.S. Constitution restricts the power of States to disrupt contractual arrangements. It provides that “[n]o state shall . . . pass any . . . Law impairing the Obligation of Contracts.”  U. S. Const., Art. I, §10, cl. 1. In a recent case, the U.S. Supreme Court addressed the issue whether Minnesota’s revocation-on-divorce statute was unconstitutional as violative of the Contract Clause. The dispute arose between the claims of a divorced spouse, and alternative beneficiaries, as to entitlement to life insurance proceeds when a former spouse died and did not remove the surviving spouse as beneficiary of the insurance policy.

The Supreme Court ruled against the surviving spouse and held these types of laws do not violate the Contracts Clause. That Clause restricts the power of States to disrupt contractual arrangements, but it does not prohibit all laws affecting pre-existing contracts. The two-step test for determining when such a law crosses the constitutional line first asks whether the state law has “operated as a substantial impairment of a contractual relationship.” In analyzing that question, the Court has considered the extent to which the law undermines the contractual bargain, interferes with a party’s reasonable expectations, and prevents the party from safeguarding or reinstating his rights. If such factors show a substantial impairment, the inquiry turns to whether the state law is drawn in an “appropriate” and “reasonable” way to advance “a significant and legitimate public purpose.”

The Supreme Court ruled based on the first step, and never had to address the second step. The Court noted that the law is designed to reflect a policyholder’s intent—and so to support, rather than impair, the contractual scheme. It applies a prevalent legislative presumption that a divorcee would not want his or her former partner to benefit from a life insurance policy and other will substitutes. Thus the law often honors, not undermines, the intent of the only contracting party to care about the beneficiary designation. Also, the Court reasoned that the law is unlikely to disturb any policyholder’s expectations at the time of contracting, because an insured cannot reasonably rely on a beneficiary designation staying in place after a divorce.This is because divorce courts have wide discretion to divide property upon dissolution of a marriage, including by revoking spousal beneficiary designations in life insurance policies or by mandating that such designations remain. Because a life insurance purchaser cannot know what will happen to that policy in the event of a divorce, his reliance interests are next to nil. Further, the law supplies a mere default rule, which the policyholder can undo in a moment by redesignating the divorced spouse as beneficiary through a change-in-beneficiary form.The Court noted it has long held that laws imposing such minimal paper-work burdens (like recording statutes) do not violate the Contracts Clause.

The decision threatened to have a substantial impact if the Court had ruled these laws to be a violation of the Contracts Law, but that has dissipated with the conclusion that such laws are not a Contracts Clause violation.

Sveen v. Melin, 584 U.S. ____ (2018)


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