If you have people who depend on you for financial support, then it’s important to begin considering a life insurance policy.
Though it may not be the most pleasant thing to think about, in the event something happens and you pass away, life insurance helps ensure those you love are protected and receive financial support when you’re gone.
To help you learn more about life insurance and what considerations to make when it’s time to choose a plan, we made a brief overview of the basics.
Types of Life Insurance
There are two primary types of life insurance – term and permanent. These two types of insurance differ primarily by the coverage period and benefits involved in the plan.
Term: Sometimes also referred to as “pure life insurance,” this type of insurance is generally the simplest and cheapest form. You buy coverage for a specific period of time (typically between 1-30 years) and once the term expires you can either renew, switch to permanent coverage, or cancel.
While this type of policy can be renewable, it’s important to note premiums increase based on age and health factors.
There is also no cash value other than the guaranteed death benefit. This means beneficiaries (i.e. those who receive financial support once you’re gone) only receive the face value payout determined by the insurer.
Unlike term life insurance, other types of life insurance are permanent and include a savings aspect that builds cash value in addition to the death benefit. Once that cash value reaches a certain amount, it is accessible to the policyholder tax-free.
The following are some of the common types of permanent life insurance:
Whole Life: You purchase this policy to cover your entire life, as long as you keep paying the premiums. Premiums remain constant throughout the policy, and the insurance company invests a portion of your premium to build the cash value. Whole life policies are more expensive than term policies in the early years, but eventually even out as your premium does not increase over time.
Universal Life: This policy is similar to whole life, but has the potential for higher earnings on the savings component. It is more flexible in terms of changing premiums and face value throughout the policy. There is usually a guaranteed return on the cash value. However, there are often higher fees, and the possibility of premium increases. You can learn more about universal life insurance here.
Variable Life: A variable life policy generally has fixed premiums, and you have control over the investment decisions for the cash value portion. You select how you want to invest your savings, choosing between bonds, mutual funds, and stocks. However, this policy does carry more risk as there is no guarantee your investment will perform well and you could end up with a reduced death benefit and cash value.
How Much Coverage to Buy?
Without taking personal considerations into account, it’s hard to know what kind of coverage to purchase and how much.
Many people decide based on an income replacement calculation, which takes your current financial obligations (e.g. annual salary, debts, future costs, etc) and subtracts them from your liquid assets (e.g. savings, existing college funds, etc).
The calculated total provides an estimation of how much support would be needed if you were to pass.
While this calculation can help determine how much coverage you need, it is important to note it does not take everything into account.
It’s important to do your research, get clear on your needs, and consult with a trusted insurance advisor before purchasing a policy.
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As mentioned, finding the right policy really comes down to your personal circumstances and making sure your loved ones don’t get stuck with bills, debts, or expenses they can’t afford.
Depending on your needs, you may even want to consider buying supplementary coverage beyond what is offered. You can learn more about supplemental coverage here.
Before Buying Life Insurance:
When deciding the best type of life insurance for you, it’s important to do the following:
- Do your research
Figure out what type of premium you’re most likely to pay and what best fits your budget. There are plenty of free online quote services out there, but talking to an insurance agent or broker is the best way to get an accurate estimate.
Part of this research will entail finding out the rate class you’ll fall into. Most life insurance companies have different rate classes depending on your lifestyle that will ultimately affect the cost of your policy. You can find out more about life insurance rate classes here.
- Consider group insurance
If your employer offers a sponsored life insurance program, it is well worth looking into it and important to take advantage of any free basic group life insurance offered.
Even if you have to make contributions, it can often be less expensive than individual life insurance as costs are often subsidized.
However, it is still important to compare group and individual rates as you may find an individual policy better suits your needs.
- Take care of your health
Aside from the obvious benefits that come with leading a healthy life, maintaining good health can also help you save on insurance.
Before making any decisions on a policy, make sure to find out what rate class you fall into and consider making any necessary lifestyle changes (e.g. quit smoking, maintain a healthy weight, exercise regularly, etc) to help you qualify for a more favorable class.
When You’re Ready To Buy Life Insurance:
Once you’ve determined your needs, it’s important to take these considerations into account before making a final purchase:
- Shop around
Keep in mind life insurance is an extremely competitive industry and there are plenty of options out there. Chances are you will be able to find essentially the same policy at a variety of different prices.
Make sure to also pay attention to premium discounts as many companies offer discounts at certain amounts. For example, you could pay less for a $250,000 policy than for a $200,000 policy because of a special offer through the insurer.
Lastly, remember if a rate is too good to be true, then that’s most likely the case. A policy is only as good as the company behind it so make sure you are working with a reputable insurer with good ratings.
- Consider the cost indexes
When it comes to deciding between similar policies, life insurance cost indexes help you compare relative costs by taking factors such as premiums, cash values, and dividends into account and collapsing these variables into a single number to compare.
Generally speaking, the lower the policy’s cost index number the better.
When comparing policies the closer they are to being identical the more reliable your cost comparisons will be. However, it is important to note small differences in the index number could be offset by other policy features or quality of service.
Insurance companies, agents, and brokers will be able to provide you with these index numbers, along with the other information needed to make an informed decision.
- Watch out for “fractional premiums” costs
Unlike an annual premium payment which is paid all at once, fractional premium payments are made over the duration of a year – either monthly, quarterly, or semi-annually.
While periodic payments may be an easier fit for your budget, beware many providers have costs associated with this type of payment structure and you could be paying more than you think.
Usually the more frequent the payment, the more you’ll end up being charged. If possible, try budgeting so you can pay your premium all at once or twice a year to avoid paying extra costs.
- Talk with a trusted insurance professional
As you can see a lot goes into choosing the right life insurance. If you decide it’s the right time for you to purchase a plan or begin weighing options, working with a local health insurance broker can help you simplify the process and ensure you’re finding the best coverage possible.