What type of life insurance should you buy
You are likely to need some type of life insurance if others depend on you for financial support, if you provide your family with such services as child care, if you need to consider protecting a surviving spouse or if you have accumulated substantial assets. When I was single, life insurance was not a priority of mine. It was not until I got married that I bought my first term life insurance policy. I thought the amount was fine until we had our first child. At that time, I almost doubled the amount of life insurance that I had. It might be the extreme, but I want to make sure my family is taken care of in the event something were to happen.
There are several types of life insurance that you may need and want to consider. For any younger age individual, term life insurance is the way to go. There are some cases where the others “may” make sense, but in almost every occurrence I’ve came across somebody having them, they were sold to the person and not the type of life insurance they needed.
Types of Life Insurance
- Term insurance is the most basic, and generally least expensive, form of life insurance for people under age 50. A term policy is written for a specific period of time, typically between one and 10 years, and may be renewable at the end of each term. Premiums increase at the end of each term and can become prohibitively expensive for older individuals. A level term policy locks in the annual premium for periods up to 30 years.
- Whole life combines payment protection with a savings component. As long as you continue to pay the premiums, you are able to lock in coverage at a level premium rate. Part of that premium accrues as cash value. As the policy gains value, you may be able to borrow up to 90% of your policy’s cash value tax-free.
- Universal life is similar to whole life with the added benefit of potentially higher earnings on the savings component. Universal life policies are also highly flexible in regard to premiums and face value. Premiums can be increased, decreased or deferred, and cash values can be withdrawn. You may also have the option to change face values. Universal life policies typically offer a guaranteed return on cash value, usually at least 4%. You’ll receive an annual statement that details cash value, total protection, earnings, and fees. Drawbacks include higher fees and interest rate sensitivity — your premiums may increase when interest rates rise.
- Variable life generally offers fixed premiums and control over your policy’s cash value, which is invested in your choice of stocks, bond, or mutual fund options. Cash values and death benefits can rise and fall based on the performance of your investment choices. Although death benefits usually have a floor, there is no guarantee on cash values. Fees for these policies may be higher than for universal life, and investment options can be volatile. On the plus side, capital gains and other investment earnings accrue tax deferred as long as the funds remain invested in the insurance contract. Meeting with a financial advisor will determine if variable life insurance is best for you.
How Much Insurance Do I Need?
Figuring out how much life insurance you need is the next step. A popular approach to buying insurance is based on income replacement. In this approach, a formula of between five and 10 times your annual salary is often used to calculate how much coverage you need. Another approach is to purchase insurance based on your individual needs and preferences. In this instance, the first step is to determine how much income you need to replace.
Start by determining your net earnings after taxes (insurance benefits are generally income tax free). Then add up your personal expenses (food, clothing, transportation, etc.) This will provide an idea of the annual income that your insurance will need to replace. You’ll want a death benefit which, when invested, will provide income annually to cover this amount. Remember to add amounts needed to fund one-time expenses such as college tuition or paying down your mortgage.
Buy The Right Type of Life Insurance
Purchasing the right type of life insurance in an amount that is suitable for your family’s needs is an important element in financial planning. You may want to consult a Certified Financial Planner (I might have a good one in mind) who can help you implement the details.
photo by merriewells
*Variable insurance guarantees are based on claims paying ability of the issuer. Withdrawals made may be subject to fees when distributed and treated as ordinary income. Outstanding policy loans at death, and withdrawals, will reduce the policy death benefits and cash values. The investment returns and principal value of the available sub-account portfolios will fluctuate so that the value of an investor’s unit, when redeemed, may be worth more or less than their original value.
