A lot of people think that Life Insurance is something that other people need. In the long list of monthly budget items, there never seems to be a line item for this type of insurance. Yet, this could be a costly mistake.
What is Life Insurance?
A life insurance policy is a contract between you and the insurance company to provide a cash benefit upon your death. While that may sound like you are betting on your own demise, nothing could be further from the truth.
For many, insurance policies like this are financial vehicles used to protect their loved ones. In exchange for a minimal monthly payment, peace of mind can for those left behind.
Consider an unfortunate incident where you die. If you are a typical American, you earn around $63,784 before taxes and have over $27,000 in non-mortgage debt. While that may not sound too bad, consider that 46% of respondents to a 2016 Fed survey said they could not cover an emergency expense of $400 without help.
Combine those stats with the data that shows the low levels of savings and you begin to see the importance of life insurance:
Basic Life Insurance Terms
Before diving in too deep about life insurance, it is helpful to review some terms.
Beneficiary - The person designated to receive the proceeds of the death benefit.
Cash Value - The liquid cash value of the policy that accumulates over time. Typically, the policy will state the final cash value at the maturity of the policy.
Face Value - The amount of the death benefit stated on the policy. This doesn't include any values for extra riders or cash value.
Policy - The legal document stating the terms of the insurance contract issued to the policyholder by the insurance company.
Premium - The periodic payment the policyholder makes for the policy. Premium payment terms are dependent on the terms of the policy. Typical terms are a lump sum, annually, semi-annually, quarterly or monthly.
Rider - An endorsement to the original policy that changes the clauses and provisions to include or exclude certain coverages. An example of a typical rider would be a long-term care rider that provides a benefit for health services.
Types of Life Insurance
The best answer to which type of policy you should buy is "it depends". It depends on your goals and what you can fit into your budget. There are a couple of questions to ask yourself to help determine what your goals may be. First, what would your family's financial situation be if you died tomorrow? Second, how would you like to pay for your funeral expenses?
If your answer to either of these questions is "I don't know", then purchasing a policy is a good idea. If you have some idea about the answers but aren't confident, then you should still look into a policy. Yet, if you have everything set up and aren't worried then a policy might not be for you.
Assuming that you are like most Americans and aren't sure what the answers to the questions are, here are the options that you have available:
|Types of Life Insurance
||Long Term Care
||Yes - During Term
Term Life Insurance
This policy is a "pure" insurance policy because you aren't paying for any extra benefits. Term insurance provides coverage for a certain time frame and protects your dependents in case you die. Simply put, if you die within the term of the policy you will receive the death benefit. If you die outside of the term, there is no benefit.
These policies have flexible terms and can range from one to 30 years. Once you buy the policy, your premium will remain the same for the entire term.
There are two types of term life insurance policies: level or decreasing. The decreasing policies will have the death benefit decrease at specific intervals during the life of the policy. The level term policies maintain a level death benefit throughout the life of the policy.
Term insurance is generally the least expensive type of life insurance because it doesn't have a cash value.
Whole Life Insurance
Whole life insurance provides protection over your entire lifetime. Whole life policies feature level or fixed premiums based on the amount of the policy. The death benefit remains level through the life of the contract.
A byproduct of this type of policy is the accumulated cash value. You can borrow against these cash values can or cashed them out if you surrender the contract.
The cash value is different than the face value of the policy. The face value is the contract amount it provides as a death benefit to your beneficiaries. The cash values reflect the value of your premiums after the insurance companies expenses and claims.
Universal life insurance is a flexible permanent policy combining the best of the term and whole life policies. The best part of a Universal life policy is the flexibility it offers in its premiums. With this policy, you have the choice between paying the minim to cover the term insurance or paying extra to fund cash accumulation.
A key feature of the cash accumulation is that you can use the cash and interest earned to pay future premiums. This makes it an attractive saving vehicle because the cash is available to use—for premium purposes—without having to take a loan.
Often, insurance companies offer riders to Universal Life policies to add extra benefits. A common rider is a Long Term Care rider. These riders may increase the monthly premium but offer some benefits without the policyholder dying.
The flexibility of universal policies is the what sets them apart from the whole life policy.
Choosing the Right Policy For You
With the differences between each of the different types of life insurance policies, it can be difficult choosing what is right for you. To begin the process you need to ask yourself two questions.
First, what type of saver are you? Are you someone who is a conscientious saver and planner with your finances or are you not very good at saving money?
Second, you need to understand what your financial goals are. Do you have many investments for retirement or are you getting started? Another component of this question is do you foresee any needs for long term care in your future?
Once you have answered those questions, it is time to speak to a licensed insurance agent to determine the right policy for you. Knowing who you are and what your goals are will help the agent know what products might be right for you. Having the right products in front of you and understanding the options presented, makes it easier to choose what's best for your family.