There are two basic types of life insurance: term and permanent.
Term life insurance covers you for a specified period of time. If you die during this period, benefits are paid to your beneficiaries. Dollar for dollar, term life insurance is usually the best buy for simple death benefit protection. You pay only for what you need, when you need it. A 35-year-old male nonsmoker in excellent health, for example, would pay only about $109 a year for a 10-year, $200,000 term life insurance policy from a top-rated carrier.
Permanent life insurance pays a death benefit as well, but it also acts as a vehicle for savings by accumulating cash value during the life of your policy. With permanent life insurance, you save for the future while providing security for your loved ones.
Permanent life insurance offers some interesting options. If you want to buy a house, you may be able to borrow against your policy’s cash value. Or, if you need funds to pay for your children’s education, you may be able to take the cash you’ve accumulated in your permanent life insurance. Whole life, universal life and variable life are examples of permanent life insurance.
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Term life insurance is a good idea if:
- You have young children and a limited income.
- Loss of one income would cause economic hardship for your surviving spouse.
- A surviving spouse would be saddled with expenses for child care or for someone to help run your household.
- Relatives would be faced with your outstanding debts, funeral expenses, probate costs and property or estate taxes.
- Your loved ones would be unable to meet basic living needs or prepare for their future.
- Your surviving spouse would need funds for medical or custodial care.
- Your business obligations would be a problem for your family or business partners.
Example: Sue is a 28-year-old single mother who just started a new job. She knows she needs life insurance protection, but she can’t afford the premiums on a permanent policy at this stage in her life.
Solution: Sue should consider a 30-year term life policy with a conversion privilege. It will pay a death benefit to her survivors if she dies while the policy is in force, and it allows her to purchase permanent life insurance protection at specified times in the 30-year period.
How much do I need?
That depends on your stage in life, the size of your family, your general standard of living, and other variables.
Experts agree that the main reason to buy life insurance is to protect your dependents if you die. Only you know what amount of coverage is best for you and your family, but ten times your annual income is a good rule of thumb.
Example: Suppose you and your spouse both work, each netting about $50,000 a year. You have two children, ages 13 and 11, and 10 years remaining on your home mortgage. Your current income is adequate for your needs, but you are concerned about how your family would get by if one of you died unexpectedly in the next few years. Your children’s college expenses are on the horizon.
Solution: Since you contribute equally to your household income, you both need life insurance to help replace your earnings if you die. Using a figure of ten times your annual salary as a gauge, you would each want about $500,000 of coverage. A 10-year term life policy would protect your family until your children finish college.
Before buying life insurance, gather your personal financial information and review your family’s needs.
- Immediate expenses such as burial costs and estate taxes
- Day-to-day expenses that must be met until family members can adjust to the loss of income
- Annual and long-term expenses such as day care, college tuition and contributions to a retirement plan
Consider the unknown:
- Will inflation erode the value of your assets?
- Will Social Security benefits be there for your family?
- How will the economy affect the income from your investments?
Once you calculate the financial impact of your death, you can compare the amount needed to cover expenses to the resources you have on hand. Term life insurance is a practical way to fund the shortfall.
Rely on term life benefits:
- Death benefits from life insurance are not affected by the economy.
- Your beneficiaries don’t have to pay income tax on the proceeds from your term life insurance.
Beneficiary. The person who receives the proceeds of a life insurance policy when the insured dies. A primary beneficiary has first entitlement to the proceeds. A secondary beneficiary will receive the proceeds if the primary beneficiary does not survive the insured.
Cash value life insurance. A policy that contains a savings element. Cash values are a feature of permanent life insurance plans.
Convertible term life insurance. Coverage that can be converted into a permanent form of insurance without a medical examination. The insured cannot be denied coverage or charged a higher premium for health conditions.
Contestable clause. Most life insurance policies stipulate that the company can void the policy within the first two years if the insured commits suicide or has misrepresented or concealed information about his or health.
Death benefit. The amount payable upon the death of the insured. This is the face value of the policy.
Insurance company ratings. There are five major insurance rating services: A. M. Best, Standard & Poor’s, Moody’s, Duff & Phelps, and Weiss. They rate insurance companies by their claims-paying ability, stability, financial performance, and other key measures.
Face amount. The amount a policy pays upon the death of the insured or the maturity of the policy.
Level term insurance. Term coverage on which the face value and the premium remain unchanged from the date the policy comes into force until it expires.
Life expectancy. The probability of one’s living to a particular, based on mortality tables. Life expectancy is reflected in the basic premium of any insurance policy.
Preferred risk. An insured who presents less risk than a standard applicant. A person who doesn’t smoke can usually get a lower premium rate to reflect a longer life expectancy.
Premium. The rate an insured is charged for coverage. A premium rate class includes insureds with similar characteristics who pose the same risk.
Proceeds. Benefits payable under any insurance policy.
Renewable term life insurance. Term insurance that the policy owner can renew without taking a medical examination. At each renewal period, the premium increases to reflect the life expectancy of the individual, but it cannot be increased to reflect adverse physical conditions.
Rider. An addition to an insurance policy that expands or excludes coverage.
Standard risk. One that underwriters view as normal and insurable at standard rates.
Substandard (impaired) risk. A person who is a below-average insurance risk because he or she has health problems, a family history of disease, or a hazardous occupation or hobby.
Term insurance. Protection for a specified number of years; term insurance policies expire without value if the insured survives the sated period.
Waiver of premium. A rider or provision in most life insurance policies that exempts the insured from paying premiums after he or she has been disabled for a specified period of time.