Prepaid Funeral Plan vs Funeral Insurance: How They Differ

A prepaid funeral plan and funeral insurance both help you pay for a funeral ahead of time, but they work differently. A prepaid plan is a contract with a funeral home for specific goods and services. Standard funeral insurance is a small life insurance policy that pays cash to the person you name. Washington's insurance regulator says benefits typically run from $5,000 to $25,000, and warns that what you pay in premiums may cost more than your funeral.

How do a prepaid plan and funeral insurance compare?

The simplest way to separate them is to ask two questions. What does the money buy, and who gets paid?

Two products blur the line. Pre-need funeral insurance pays the funeral provider you chose rather than a beneficiary, and Washington's regulator says it can protect you from inflation by setting costs at today's prices. Many prepaid plans are also funded by an insurance policy behind the scenes. The FTC says some states require the funeral home to put your money into a state-regulated trust, and others require it to buy a life insurance policy and assign the benefit to the provider.

How does a prepaid funeral plan work?

You choose a funeral home, the type of service and the items you want, then pay in one sum or in installments. The funeral home agrees to provide them when you die. Our guide to pre-paid funeral plans explains trusts, insurance funding and state differences.

The FTC says protections vary widely from state to state, and some state laws offer little or no effective protection. It suggests asking what you are buying, how your state handles the money, who gets the interest, what protects you if the business closes, whether you can cancel for a full refund and whether the plan transfers if you move.

The Funeral Consumers Alliance lists the downsides of prepaying:

• You may not get all your money back if you cancel.
• Sellers may keep the annual interest.
• Today's payment may not cover future costs.
• Your family may not know about the plan and may pay twice.
• The funeral home may close or change hands.

If a provider fails, see our guide to what happens if a plan provider goes under. To leave a plan, see cancelling a pre-paid plan and transferring a plan.

How does funeral insurance work?

You pay a premium and name a beneficiary. When you die, the insurer pays the benefit, as long as the policy is in force. According to Washington's regulator, it is easier to qualify for than most life insurance, there are few or no health questions, and often no exam. The trade-offs are that premiums are usually higher than ordinary life insurance, benefits are lower and there are no discounts for good health.

NerdWallet says most burial policies need no medical exam and decide on a health questionnaire. Guaranteed issue policies accept any applicant, but they carry a waiting period, commonly two years. If you die in it, NerdWallet says the insurer refunds your premiums rather than paying the death benefit. NerdWallet's own example is a healthy 50-year-old woman paying about $360 a year for $10,000 of guaranteed issue cover, but prices depend on your age, health and insurer. Our guides to the funeral insurance waiting period and the complete funeral insurance guide go deeper.

Add up the total before you buy. This example is hypothetical. If you paid $40 a month from age 60 to 85, you would pay $12,000 for a $10,000 benefit. If you died at 65, your family would get far more than you paid in. That gamble is the nature of any life insurance policy. The Funeral Consumers Alliance cautions against burial and pre-need insurance for this reason, saying you will usually pay as much or more in premiums than the policy pays out.

What about rising funeral prices?

This is the argument people most often make for a prepaid plan. A plan that guarantees specific goods and services shifts the price risk to the provider. A plan that only guarantees the money may not, and the Funeral Consumers Alliance warns that today's payment may not cover future costs.

Standard insurance pays a fixed sum, so if prices rise, your family covers the gap. Whether prices will rise faster than your money would grow is something no one can promise. Either way, find out what your funeral costs now. The General Price List is free, and our funeral cost calculator and guide to average funeral costs show typical ranges.

How are the taxes different?

Federal law excludes life insurance death proceeds paid because of the insured's death from the recipient's gross income, with some exceptions (26 U.S.C. section 101). The Texas Department of Insurance says beneficiaries rarely pay income or inheritance taxes on a death benefit.

A prepaid funeral trust is different. Earnings can be taxable. The tax code lets a trustee elect to treat a "qualified funeral trust" separately, with each beneficiary's interest taxed as its own trust (26 U.S.C. section 685). Whether your plan qualifies, and how it is taxed, depends on how it is set up, so ask the provider and a tax professional.

Does either affect Medicaid or SSI?

It can. The Funeral Consumers Alliance says an irrevocable funeral trust can protect money when you qualify for Medicaid because the funds are excluded from countable assets, and that it should be used only when eligibility is certain. It also says Medicaid counts a payable-on-death bank account as an asset. Rules differ by state and by how a policy or trust is set up, so ask your state Medicaid office or an elder law attorney before moving money. Our guide to Medicaid and funeral assistance has more.

Is there another way to set money aside?

Yes. The Funeral Consumers Alliance recommends planning ahead without paying ahead unless Medicaid requires a spend-down. Its suggested alternative is a payable-on-death (POD) account. The money stays in your name, is FDIC-insured, can be withdrawn at any time and goes to your beneficiary without probate delays. The interest is taxable. See our guide to payable-on-death accounts.

To make this work, write down your wishes, compare prices and tell your family where the paperwork is. The FTC says to give copies to your family and attorney, and not to keep the only copy in a safe deposit box or only in your will.

Which one fits which situation?

This is general information, not personal advice. Some points people weigh:

• A prepaid plan can make sense if you have chosen a funeral home you trust, you are unlikely to move and the contract guarantees the items and protects your money.
• Funeral insurance can make sense if you want a payout your family can use anywhere, you cannot save a lump sum, and you have compared the total premiums with the benefit. Check the waiting period and your health.
• Neither may suit you if you can set the money aside yourself and your family knows your wishes.

Ordinary life insurance is another option. Washington's regulator says funeral insurance premiums are usually higher and its benefits lower than ordinary life insurance, so a quote for both is worthwhile. See funeral insurance vs life insurance.

What if you live outside the US?

Rules differ by country. In the UK, prepaid funeral plans are regulated by the Financial Conduct Authority and are compared with over-50s life insurance. See our guides to UK pre-paid funeral plans and over-50s funeral plans. For Australia and Canada, see prepaid funeral plans in Australia and prepaid funeral plans in Canada.

What to do next

1. Get the General Price List from a few funeral homes so you know the cost of the funeral you want.
2. Ask any plan seller the FTC's questions in writing, and ask any insurer about the waiting period and total premiums.
3. If Medicaid or SSI is involved, speak to an elder law attorney before you buy.
4. Tell your family which option you chose and where the papers are.