Nobody likes to think about his or her own mortality. But the statistics regarding death are inescapable: 10 out of 10 people are going to die eventually.
So instead of avoiding the topic of death, it’s best to plan ahead for how your family will be provided for financially if the primary earner dies unexpectedly. Life insurance is the main vehicle used by most people to provide income for family members in this situation.
How Life Insurance Works
The concept of life insurance is fairly simple: In exchange for making premium payments, your designated beneficiaries will receive a death benefit if you die during the term of the policy. These funds can be used to replace your income and help your surviving family members meet their everyday living expenses.
There are two main types of life insurance: term life insurance and permanent life insurance. Term life policies are issued for a given period of time — such as 10, 20 or 30 years — during which the premiums remain the same. If you die during the term, your designated beneficiaries will receive the death benefit. If you don’t die during the term, the policy will expire and no benefits will be paid.
Permanent life insurance operates differently. As the name implies, coverage is permanent and lasts until you die, instead of just for a certain number of years. In addition to offering a death benefit, permanent insurance also includes a savings component in which a portion of premiums are devoted to what’s called cash value that builds up over the life of the policy.
There are several different kinds of permanent life insurance — whole life and universal life are two of the most common. The main difference between them is that with universal life, you have the flexibility to pay premiums at any time and in any amount (within limits) while lowering or increasing your death benefit.
Comparing Term and Permanent Policies
Term life insurance is less expensive than permanent insurance because no cash value is built over time. Its sole purpose is to provide financial protection for your dependents in the event of your death. Unlike permanent insurance, a term policy has no value other than the death benefit. If you die after the term ends, neither you nor your family will receive any financial benefit from the policy.
With its cash value that may grow over time, permanent life insurance is sometimes used as a retirement planning vehicle. Funds grow tax-deferred and can be tapped to meet living expenses during retirement. In addition, most policies allow loans from the cash value that can be used to meet a wide range of purposes.
While permanent life insurance may offer benefits regardless of when you die, you must consider the additional cost and decide whether it’s worthwhile or not. Some people believe life insurance is a poor investment and should only be purchased as a protection, not an investment, vehicle. The additional amounts paid to purchase permanent life insurance could instead be invested in a retirement account like an IRA or 401(k), this thinking goes.
How Much Life Insurance Do You Need?
A main question many people have when buying life insurance is how much coverage do they need? Every family’s situation is different so there’s no one-size-fits-all answer — the right amount for your family will depend on your specific circumstances.
One strategy is to purchase a multiple of your annual income, such as 5x. So if you earn $150,000 per year, you would purchase a life insurance policy with a $750,000 death benefit. Whether this is enough for your family will depend on such factors as how many children you have, how old they are, whether your spouse works outside the home, and how much income he or she earns if so.
For example, if you have several young children and you are the primary earner in your home, you will probably need more coverage than if you and your spouse are empty nesters and your spouse also earns income. As you go through different life stages, it may be a good idea to review your policy and make sure the coverage amount is still adequate given your current circumstances.
Shopping for Life Insurance
Life insurance premiums are based on a wide range of factors including your age, health, smoking status, length of term, and the type of policy and how much coverage you buy. You can shop for insurance quotes online or a licensed insurance agent can help you find the best policy for your situation and your budget.
Give us a call if you would like to discuss life insurance in more detail. We can help you choose the best type of policy and the right coverage amount based on your specific situation.