What Is Collateral Assignment?

There are many creative uses for life insurance. You can use it for a lot more than just paying for your funeral or covering debts you leave behind. There are ways to assign your life insurance policy to another party for a number of purposes. Collateral assignment is one of those processes.

What Is Collateral Assignment?

Collateral assignment uses your life insurance policy as collateral. The lender is assigned as the primary beneficiary to insure they don’t lose money on a loan. If the borrower can’t pay, the lender sells the life insurance policy to cover the loan. If the borrower dies before paying off the loan, the lender takes what is owed from the death benefit.

The situation works out nicely for the lender, as generally death benefits not assigned to a lender are protected from debtors. Without collateral assignment, a lender could lose money in the event of a borrower's death.

To use a policy as collateral, it will likely need to be a whole life policy. Otherwise, the lender would not be able to sell it to recover its investment. After the loan is paid in full, the primary beneficiary on a collateral policy is generally reassigned to someone the policyholder chooses.   

Absolute Assignment 

Where collateral assignment only transfers the right of primary beneficiary, absolute assignment transfers ownership of the entire policy. The use of absolute assignment is broader than collateral assignment. It doesn’t always involve a loan.

One common use of absolute assignment is charitable donation. You can transfer ownership of a whole life policy to a charity and it sets itself as the primary beneficiary. This is can be more efficient in some cases than just setting a charity as a beneficiary and avoids delays and fees involved with the estate. You may also be able to write off your premium in this situation as a charitable donation. Absolute assignment cannot be revoked.