Life insurance is a way to ensure that your family will be protected financially in the event of your death. Things such as creating a retirement nest egg, continuing their education and living in a nice home will be difficult for your family to do without your income. This page will talk in detail about how to handle basic planning concerns, how to correctly read a life insurance policy and how to get the correct level of coverage. You will also learn about the two common types of life insurance. This information will hopefully help you decide how much coverage you are going to need.
Here are some of the main reasons that a person should buy life insurance:
- Money to pay for retirement.
- Money to pay for the funeral of the deceased person.
- Money to pay any estate taxes or other debts that the deceased person had.
- Money to pay off a consumer debt or a mortgage.
- Money for children’s education.
- It provides surviving members of the family with money they can live on after the insured person has died.
BASIC INFORMATION ABOUT LIFE INSURANCE
What is life insurance?
It is a contract that is made between the insurance company and the person who is insured. The insurance policy states that the company will pay a specific amount of money to the person(s) listed as beneficiaries in the policy in the event of the insured person’s death. Until the insured person dies, premium payments must be made to the company.
Why would a person require life insurance?
- The primary reason is to provide a family with money that will replace the lost income of the deceased person. If a family depends on the father to earn money to pay all of the bills, what would the family do if he were to die suddenly? Life insurance protects the family if that tragedy should happen.
- Paying off the debts of a deceased person is another common use for life insurance money. Credit cards, medical bills, car loans and mortgages are expenses that the families of deceased people are frequently left with. The assets that are left behind by a deceased person must be used to pay these debts. If a person dies without life insurance, bills such as these could cause a family to go into financial ruin.
- It can provide the deceased person’s estate with liquidity. People who die with no life insurance may not have enough liquid assets (savings bonds, CDs or cash) to cover debts and other expenses. This would require the family to start selling illiquid assets (stocks, cars or real estate) to pay their bills. Because these illiquid assets must be sold fast to make payments on time, they might be sold far below what they are actually worth. The money from a life insurance policy is available to the beneficiary almost immediately after the insured person dies, so there is no need to sell assets.
- It creates an estate for the deceased person’s heirs. It provides people with money to use for their future, possibly as an investment. It is also used by people as a way to give to charity.
- It can be used for business purposes. For example, life insurance money can be used to finance a buy-sell agreement to pay for the portion of a business owned by the deceased person.
Types of life insurance
1. Term Insurance
These policies are valid for a specific time period, known as a term. The money is only paid if the insured person dies within the specified term. A term might last for 10, 15, 20 and as much as 30 years.
2. Permanent life insurance
These policies have no expiration date. The insured person will remain covered by the policy for as long as they live, provided he or she keeps paying their premiums.
3. Whole life insurance
These types of policies provide lifetime death benefit coverage at a premium that stays the same throughout the person’s life. It may cost more than term insurance at a younger age, but the cost eventually evens out since term insurance premiums increase at every renewal, whereas whole life premiums don’t.
4. Universal life insurance
These policies are similar to permanent life insurance, but are more flexible.
Other important facts
The cost of life insurance depends upon the person’s health at the time they buy the policy, their age and the type of policy they are buying.
Life insurance contracts are made up of riders, options and provisions. Riders are additional coverage that the provider offers when the policy is first applied for. If any are chosen, they are added to the total cost of the policy. Options are features that require the insured person to make choices about their coverage. Provisions explain requirements, conditions, benefits and features of the contract.
- To avoid estate taxes when the insured person dies, be careful about who the beneficiaries are and who owns the policy.
- Since it is paid with after-tax dollars, the money paid to the beneficiary is not part of gross income for tax purposes.
- Payments for life insurance can’t be deducted from your taxes.