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How personal impacts your life insurance

Filing for bankruptcy is usually person's worst nightmare, but when it comes to protecting your assets (including the value of your life insurance policy), information is key.

A life insurance policy is considered valuable property, which means creditors may attempt to "acquire an interest in the policy's values," but all states and the federal government have "enacted legislation providing protections for life insurance against the claims of creditors," says Glenn E. Stevick, Jr., a professor with The American College.

 Here's some basics you should know when it comes to bankruptcy and how it affects your life insurance policy.

First, more people file for bankruptcy than you might imagine. With the latest economic downturn and mounting bills, the current bankruptcy-filing rate is at a 5-year high, according to recent data released by Automated Access to Court Electronic Records (AACER). What's more, the American Journal of Medicine reported that more than 1.5 million people filed bankruptcy last year, 60 percent of those filings were the direct result of medical bills.

The American Journal of Medicine, for example, found that 1 in 25 people in the Bay Area have filed for bankruptcy last year, says bankruptcy attorney, Jeena Cho of San Francisco-based JC Law Group.

"It's like the dirty little secret," Cho says. "Two things that we don't talk about are death and money. When people start talking about their financial issues, they find there are plenty of people in the same boat."

There are two types of bankruptcy for individuals: Chapter 7 and Chapter 13.

Chapter 13 is where you can hold on to your assets and aren't at risk for losing property, but you must repay some of the debt over a three to five year period. If your cash value for life insurance is worth more than the exemption in your state, then consider filing Chapter 13 to protect your assets, Cho recommends.

If you pass a means test and can file a Chapter 7, you must liquidate your possessions and assets, which typically takes four months. It also means your life insurance policy could be affected.

Cho says one of the worst things someone can do is liquidate their assets and start borrowing money from their life insurance and retirement funds, which are almost always protected in bankruptcy.