The primary reason you should consider life insurance in your financial plan is to provide money to your surviving heirs in the event of a premature death. Let’s look at a few basic questions:
1. What is life insurance- exactly?
A Life insurance policy is a trust agreement between and insurance company, an insured and a beneficiary. The insured pay a certain amount into the agreement, and in exchange the insurance company pays a benefit to the beneficiary in the event of death.
2. What types of life insurance are there?
Life insurance comes essentially in two varieties- term life and permanent life. Term life is a temporary policy for a set period of years, at which point the policy expires.Term life can be purchased in many different lengths of time, the most common being 10 or 20 years, although some as long as 30 or as short as 1 year can be purchased.
Permanent insurance is a policy where the insured is covered until the date of death or (in most cases) the policy ‘matures’ – typically at age 100. Permanent insurance comes in a variety of types including but not limited to whole life, universal life, or variable life. The reasons for purchasing either can be complex and varied, so consult with a professional before making any insurance purchase.
3. How much should I get?
The amount of insurance to purchase is relative to the reason for purchase, the most common being replacement of income in the event of premature death. Most professionals recommend 10-12 times your annual income for this purpose as it will take a bulk amount of this much cash to generate approximately 20 years of safe income.
This of course does not allow for inflation or final expenses, so a basic calculation of your estate and income and needs should be done by a professional consultant or agent before deciding on any amount. Most good plans of insurance have contingency plans for a variety of factors such as estate tax considerations, varying or unpredictable income fluctuations, or increased final expenses.
4. What are the benefits of life insurance?
Benefits of different types of policy will vary from policy to policy but some specifics are common to all policies. First off, the death benefit is typically excluded from income tax. A $500,000 dollar policy will pay $500,000 dollars income tax free (in most cases) to the beneficiary. This benefit is also excluded from any probate or will considerations if the beneficiary is named directly. As a result it is the most effective tool for passing wealth from one generation to the next- bar none.
Permanent life insurance also typically has an internal cash value benefit – or ‘equity’ – in the policy. This cash value grows tax deferred and may eventually be sizable enough, or the performance substantial enough, to pay for its own premiums. Permanent insurance however, typically is more expensive and may not perform at the level of other, riskier, investments. This is why a professional adviser should be consulted before any purchase, and in particular before purchasing permanent insurance.
For more information, you should also check with NAIFA- the National Association of Financial Advisers. They also put out good information on the subject, and any good agent should supply you with their pamphlet at the time of delivery of the policy.
5. What company is best?
Make sure to check out the financial strength of the company you purchase from- most major carriers are highly rated. Look for AA or AAA ratings from services such as Moody’s or AM Best. Most companies have good agents with solid training and experience to discuss your personal needs. Look for an agent with any or all of these credentials : LUTCF, CLU or ChFC. Also, you should see someone who is a member of NAIFA.