When a life insurance policy is used as a 'collateral assignment' for a bank loan, what happens if the insured person dies?

Question: When a life insurance policy is used as a 'collateral assignment' for a bank loan, what happens if the insured person dies?

Answer options: ✅ The lender receives the portion of the death benefit equal to the debt, and the beneficiary receives the balance.

• The lender becomes the absolute owner of the policy and the naming of the beneficiary is voided.
• The policyowner must cancel the policy and pay the lender from the cash surrender value.
• The death benefit is paid entirely to the lender regardless of the loan balance.

Correct answer: The lender receives the portion of the death benefit equal to the debt, and the beneficiary receives the balance.

Explanation: A collateral assignment allows a policyowner to use the life insurance policy as security for a loan. If the insured dies, the lender (assignee) is paid the balance of the loan first, and any remaining proceeds go to the named beneficiary. Unlike an absolute assignment, the policyowner retains ownership.