Unmarried couples face some unique financial and estate issues that life insurance can help solve. For instance, married couples typically use life insurance to provide funds to help replace income at the death of a spouse. As an unmarried couple, you may have an even greater need for replacement income, since the surviving partner is ineligible for spousal benefits from Social Security and many defined benefit pension plans. In addition, both of your estates may have an even greater need for cash to help pay estate taxes, since you are not entitled to the unlimited marital deduction for property you bequeath each other.

With proper planning, life insurance can provide cash to help meet these needs. And, since life insurance proceeds do not go through probate, it also offers a way to provide for each other beyond a will, which could be contested by family members.

Income Replacement
There are two ways to structure life insurance to help provide replacement income. You can either cross-own policies, or you can own individual policies with the other partner named as beneficiary.

Cross-Owning Policies. You each own a policy on your partner's life. When one partner dies, the surviving partner uses the death benefit proceeds to help provide income. Since the policy is owned by the surviving partner, not the deceased, it is not included in the deceased's estate and, thus, is not subject to federal estate taxes.

You may need to demonstrate an insurable interest to cross-own policies. Spouses are automatically assumed to have an insurable interest on one another. As an unmarried couple, be prepared to prove insurable interest with evidence of jointly owned assets and, possibly, copies of wills or trust documents.

Individual Policies with Partner as Beneficiary. You each own a policy on your own life, naming your partner as beneficiary. The surviving partner uses the death benefit proceeds to help provide income. However, since you each own your own policy, the proceeds are included in the deceased partner's estate, and may be subject to estate taxes.

Cash to Pay Estate Taxes
Married couples enjoy a special tax break—the unlimited marital deduction—that allows them to transfer unlimited assets to each other during their lifetime, or at death, free of gift and estate taxes. Since unmarried couples do not fall under the purview of this deduction, the value of any property you leave each other above a certain dollar amount ($1,500,000 for 2005) may be subject to federal estate taxes. Some states also levy estate taxes. Life insurance provides cash that can be used to help pay estate taxes. You can either cross-own policies, or create an irrevocable trust.

Cross-Owning Policies. With cross-owned policies, you purchase insurance in the amount of the estimated taxes. As mentioned above, the advantage of this approach is that, since you—not your partner—now own the policy, the proceeds are not included in his or her estate.

Irrevocable Trusts. You can gain even greater protection against the possibility of estate taxes with an irrevocable trust. A trustee buys and owns the life insurance policy; you furnish the trust with the funds to pay the premiums. However, irrevocable trusts must be carefully established to avoid adverse tax consequences. They are costly to set up and, as the name implies, they cannot be revoked.

Life insurance has long provided a valuable solution to married couples who may need cash to help replace income and pay estate taxes at the death of a spouse. As an unmarried couple, lacking some of the special benefits of marriage, your need for cash at the death of a partner may be even greater. As with all insurance and estate planning concerns, it is always best to consult a qualified professional to discuss your particular needs and ensure arrangements are properly structured.