Purchasing life insurance is rarely an enjoyable task, yet it is crucial for your overall financial strategy. If there are individuals in your life who depend on your earnings, having life insurance becomes vital to safeguard their interests. Conversely, for some, investing in life insurance may not align with their financial goals.
Determining whether life insurance is necessary for you and identifying the most suitable type for your family can require careful consideration. However, this process can be manageable and straightforward. Continue reading to discover the various kinds of life insurance policies, methods to assess your need for one, and guidelines on how much coverage you might require.
What is life insurance?
Life insurance represents a formal agreement between you and an insurer, wherein the company commits to pay a lump sum to your beneficiaries upon your passing. In return, you pay premiums on a monthly or annual basis. Individuals acquire life insurance to aid their families in covering lost income and final expenses following their death.
You have the flexibility to decide on the coverage amount and the duration of your life insurance policy, whether for a few years, several decades, or as a lifelong policy. It’s important to note: Larger coverage amounts or longer policy durations generally lead to higher premium costs.
Besides the coverage amount and duration impacting the cost, obtaining a life insurance quote often necessitates a medical examination before the policy can be issued. The results of this exam could affect your insurance rates.
How do I know if I need to buy life insurance?
Although parents with young children are often highlighted as typical candidates for life insurance, others might also benefit from obtaining coverage.
You could be a strong candidate for life insurance if you:
- Have children or other family members financially dependent on you who would require income replacement after your passing.
- Carry substantial debt or financial obligations that may impose a burden on your beneficiaries without a life insurance payout.
- Wish to cover your funeral or burial costs to prevent your heirs from utilizing your estate to manage those expenses.
- Support an adult dependent with special needs who depends on your financial support and want to secure their future after your departure.
- Aim to establish a legacy for a charitable organization or a loved one.
If these circumstances do not resonate with you, life insurance may not be necessary. Even if a policy isn’t required at the moment, crafting a comprehensive estate plan is crucial so that your family is informed of your preferences in the event of your incapacity.
Types of life insurance policies you can buy
There are fundamentally two categories of life insurance available: term and permanent. Within permanent life insurance, a variety of options exist.
Term policies
Term life insurance is a short-term policy typically offered for a duration of 10 to 30 years or until reaching a specific age, though variations exist. Policyholders pay premiums either monthly or annually for the specified period. The premium amount is usually based on the policyholder’s age, gender, health status, and other factors. The premium remains consistent throughout the policy duration.
In the event of your death during the term, the insurance provider will pay the designated amount, or death benefit, to your beneficiaries. However, if you survive the policy term, you will not receive any premiums back or any additional financial advantage.
Many prefer term life insurance due to its generally lower cost compared to permanent policies. Balancing your family’s protection with affordable premiums can be a worthwhile compromise. Remember: The older you are when securing a policy, the more you are likely to pay. Some term policies may be convertible to whole life insurance, but this varies by policy.
Permanent policies
Whole life: According to the Insurance Information Institute, whole life insurance is the most prevalent form of permanent coverage you can purchase. Its primary advantage is that it remains in effect for your entire life, unless you stop premium payments and the policy lapses.
Unlike a term plan, whole life insurance builds cash value by allocating a portion of your premiums into a savings account. You may also receive dividends based on the insurer’s financial success.
Whole life policies typically come with higher premiums than many alternatives. However, this might be a worthwhile investment for those desiring lifelong coverage and who can afford the elevated costs.
Universal life insurance: This policy guarantees a fixed death benefit for the insured’s lifetime, as long as premiums are paid and other stipulations are fulfilled. Universal life also features a cash value component, which typically earns interest at a money market rate. You may have the option to borrow against the policy’s cash value or adjust the death benefit as the cash value accumulates.
Variable life: The cash value of this policy can be invested in various options such as the stock market, bonds, or money market mutual funds. Due to potential market fluctuations, variable life insurance has the possibility of yielding higher returns compared to other policies, but it also carries the risk of diminishing your cash value or death benefit should the market perform poorly.
Variable-universal life: This type merges features from both variable and universal policies. With variable-universal life, you can modify your premiums and death benefits (similar to universal policies), as well as invest in the stock market (like variable policies).
How much life insurance do I need to buy?
Calculating the appropriate amount of life insurance can be intimidating. After all, there is no universal formula that applies to everyone when it concerns insurance policies. To assist you in determining the suitable coverage amount, begin by assessing your financial position.
In the event of your passing, what financial resources would be available to your family to compensate for your lost income? When will those resources become accessible?
Consider factors such as:
- Investments or other financial accounts your family might possess
- Your surviving partner or spouse’s income
- A group life insurance plan through your employer
- Social Security survivor benefits—if you have children under 18 and your surviving spouse’s income is below the threshold
Keep in mind, if your children are over 18 when you pass (or you have no children), your family may not qualify for Social Security survivor benefits. Your remaining partner might need to wait until they reach at least 60 years of age to access their Social Security benefits.
To figure out how much insurance to purchase, some specialists recommend multiplying your salary by eight. Others suggest multiplying your annual salary by the number of years remaining until retirement. Online calculators can also be valuable tools in determining the necessary coverage from a life insurance policy.
Shop around before buying life insurance
As with any insurance type, obtaining multiple quotes prior to purchasing a life insurance policy is beneficial. Insurance providers can vary significantly in rates and offerings, so it’s prudent to conduct thorough research.
During your inquiry, evaluate the financial stability of the insurer. A policy is ineffective if the insurer fails to remain operational or is unable to honor a death benefit. Ensure that any company you consider is financially robust and has a reliable history of fulfilling claims.
Tell your beneficiaries
Securing a life insurance policy is a positive step, but it’s vital for the key individuals in your life to know how to locate the policy information. Keep the policy documents safe, alongside the other components of your estate plan and financial information, in a secure location like a fireproof file cabinet. Inform the executor of your estate and close family members about where to find these documents. Additionally, leave behind a list of your financial accounts and login details to make accessibility easier.
Bottom line
Pursuing life insurance may not be a lighthearted matter, but preparing for the future can be one of the greatest gifts you can give to your family. Familiarize yourself with the available options and take time to evaluate how much your family will need to sustain their current lifestyle. If you’re uncertain about which type of life insurance to select or the amount of coverage required, consulting with a financial advisor is highly recommended.
