When planning for the future, life insurance can be an important consideration. However, many people aren’t exactly sure what it is, how it works, and most importantly – if life insurance is something we really need.
Read on for a 101 guide to understanding life insurance, including a few tips on deciding what kind of policy might be right for you.
What Is Life Insurance?
Life insurance is a contract between the insurance holder and the insurance company. The person who’s insured is responsible for paying a certain amount of money in yearly or monthly premiums. In exchange, the insurer is responsible for paying out a lump sum of money after the policyholder has died. The lump sum will be delivered to beneficiaries named by the insurance holder. Usually these beneficiaries are family members, such as a spouse or children.
Who Needs Life Insurance?
The protection and peace-of-mind offered by life insurance may be relevant to a number of different people, including:
- Parents: Families with young children, or who look after adult children with disabilities, may purchase a life insurance policy so that if the parents pass away, the children would have financial support. It’s a good idea to consider a policy for each parent, including if one partner is a stay-at-home-parent, as their death could result in significant childcare costs for the surviving spouse.
- Adults with a dependent spouse: If one partner would find it difficult to keep up household payments or handle other financial responsibilities on their own, the primary income earner may want to to have life insurance coverage.
- Families concerned about estate taxes: Depending on estate value, some families may anticipate their descendants needing to pay high taxes to access inherited assets. In this case, a life insurance policy can help offset these costs for estate beneficiaries. We suggest contacting an estate planning attorney for specifics on your situation.
- Children or teenagers planning ahead: While it’s rare for young people to hold life insurance, a whole life policy can act as a good investment vehicle: building cash value and possibly distributing dividends over time. Purchasing a policy early also means locking in a very low premium rate, which will never expire.
- Retired couples: Some pension schemes offer a choice between high monthly payouts that end when the pensioner dies, or smaller monthly payouts that continue for the surviving spouse. Couples may opt to take the higher payouts and use some of that money to purchase a life insurance policy, so that the surviving spouse will still be covered if the pensioner dies first.
When to Buy?
Purchasing a life insurance policy is usually less expensive the younger the policy holder is. Premiums become more expensive with age and health problems. Consider purchasing not at a certain age, but when certain life events occur: like getting married, having kids, or when one spouse has a change in employment. Retirement is another key moment to look at finances and ensure everyone is protected.
Term vs. Whole Life: What’s the Difference?
There are two basic options when it comes to life insurance policies: term life insurance and whole life insurance.
Term life insurance provides coverage for a specified time period. Benefits expire after the term has ended; and while the policyholder can opt to renew coverage, there will likely be a readjustment of premiums. Whole life policies, on the other hand, stay active until the insured party dies, so long as the fixed premiums are paid as agreed.
The advantage of term life insurance is that premium rates are significantly lower than with a permanent policy—usually less than $50 per month, depending on face value—while offering comparable pay-out coverage to a whole life policy. Parents with a limited budget who want extra financial protection until their kids are grown might choose term life insurance.
A whole life policy, sometimes called permanent life insurance, has its own advantages. While renewing term insurance may lead to higher premiums, with a whole life policy, the insured will pay the same fixed premiums even as they age and even if they develop a serious health condition. Moreover, a whole life policy grows in tax-deferred value and often pays out dividends to the policyholder, based on the financials of the company providing insurance.
Should I Get Life Insurance?
To decide on the question of life insurance, do some careful thinking around the financial situation of you and your family. It’s always a good idea to map out possible situations and consider what contingencies are in place so that if a death occurs, dependent family members are protected.