When most people think about money, they tend to focus on the big events in life – signing up for that first credit card, buying their first house or looking forward to the day they can finally stop working.
But one very important financial event never seems to get the attention it should: your death.
When surveyed, 85% of Americans agree that most people need life insurance. However, a mere 59% actually carry a policy themselves, according to a 2017 study.
That’s partially because it’s admittedly uncomfortable to think about what happens to your loved ones when you’re gone. But when you stop and tally up the bills and debts and potential lost income, most Americans get comfortable with the idea of life insurance in a hurry.
If you’re young and single, without a lot of debts, then life insurance may not be so important. But here are a few clear examples of who should consider life insurance, and how it can help:
Anyone Who Draws a Substantial Salary: Life insurance is a good way to safeguard what may be your most powerful asset – your future ability to earn. Consider this: If a 35-year-old woman making $50,000 a year dies, her family misses out on $1.5 million in lost wages across what should have been 30 more years of work. And that’s without taking into account any future salary increase over that time.
Anyone With Shared Debts, Like a Mortgage: Many couples tackle the big things in life together, like buying a house or taking out student loans so kids can attend college. If your partner couldn’t pay for these items alone, you should consider life insurance as a way to share the burden even if the unexpected happens. It’s hard enough to lose a loved one without also giving up these items as well.
Anyone Who Wants to Leave an Estate Behind: If you’re looking to transfer wealth to the next generation, or if you’re simply looking to give your heirs a leg up that you never had, life insurance is an effective way to leave a legacy behind.
If you fall into one of these groups, the importance of life insurance should be fairly easy to see. But understanding how various forms of life insurance work – and which policy is right for you – can be much more complex.
Here’s what you need to know:
Common Types of Life Insurance
The many variations of life insurance help explain why many people admit they need life insurance but are slow to purchase an actual policy. But the good news is that while on the surface things may seem complex, the flexibility insurance policies these days is ultimately a good thing because it allows you to customize your policy based on your needs.
In general, you can think about life insurance policies as falling into the following categories.
Group life insurance – Provided commonly through your workplace, group life insurance operates just like employer-sponsored health insurance. The good news is that by pooling the risk of the employees, you can create very affordable benefits for individuals. The bad news, however, is that group coverage is not tailored at an individual level and can be inflexible. The clearest example of this is that employer-sponsored group coverage ends when your employment ends.
Term life insurance – Term life is a policy that lasts for a specified term – say, the next 30 years. This is a big step up over your employer’s group life insurance not just because it’s portable, but because you can customize it based on the term you want covered and the amount of benefits you want paid. The downside, if it can be called that, is if you live a long time you will eventually outlast your coverage.
Whole life insurance – As the name implies, whole life lasts your whole lifetime. Premiums are typically fixed and will not rise after you enact the policy, but in the long run you may wind up paying much more than a term policy – and perhaps more than the benefits you’re paid out, should you live long enough.
Universal life insurance – Perhaps the most complex and comprehensive policy, universal life requires policyholders to pay in more than their base insurance costs and the insurer invests that money with the hope of creating a profitable return in stocks or bonds. You can pay big fees for a policy like this and the investments can sometimes be hard to understand, but it is as much an investment mechanism for your heirs as it is an insurance policy.
Choosing the Right Life Insurance for Your Family
Deciding on how much you can afford to spend on premiums and how much you’ll need for payouts is a very personal decision, and there is no one-size-fits-all solution. But generally speaking, here are what most families should think about when they consider life insurance policies:
Almost everyone should take their employer’s group policy – As previously explained, group life is often much cheaper than an individual policy. Yes, it won’t be there if you leave. And yes, there are frequently lower caps on benefits. But you can find basic coverage for under $200 a year in many cases, which is a great start. Even if you’re single and young, the costs are so low that it’s worth joining a group policy.
If you have a family, supplement that with term life – To give your survivors more benefits and to ensure your policy can move with you from job to job, a term life policy is the next step. A term life policy makes a ton of sense in particular for young professionals, because insurers offer much lower rates to a healthy 30-something than they do an overweight diabetic in his 50s. Yes, a term life policy could expire and be “worthless” in your 50s or 60s should you live to a ripe old age, but the peace of mind is invaluable – and if you sign up early to lock in a good rate, premiums shouldn’t be overly burdensome.
If you have a sizeable estate, think about whole or universal life – If you’re older and have a sizeable nest egg or if you’re just well-off and looking for a tax-efficient way to leave an inheritance to your heirs, whole life can make sense. Generally speaking these instruments are not for the typical middle class family because of their cost and complexity. However, if you have the resources it’s worth discussing the role these instruments can play in your estate planning.
Of course, all these decisions are worth discussing with your financial advisor or an insurance professional to ensure you’re making the right move.
How Much to Spend, and How to Shop Around
There is no one-size-fits-all solution to life insurance, so costs can vary widely both from person to person and plan to plan. Some simple policies for young, healthy applicants can cost under $20 a month, while complex policies for older folks in poor health can easily cost hundreds of dollars for each monthly premium.
But thankfully, in an internet age it is reasonably simple to shop around among insurance providers if you know what you’re looking for. Even just the process of getting quotes from a provider online can be an important process in learning about what you need and what your budget can allow.
Here are some general rules of thumb on what will affect your cost, and what to consider as you shop around:
The Older and Sicker You Are, the Bigger Your Premium – If you’re young and in good health, now is the perfect time to shopping for life insurance. Insurance companies will find you an attractive applicant because there is a high likelihood you’ll be paying premiums for some time before collecting a benefit. But if you just got diagnosed with lung cancer and choose right now to go shopping for a policy? Well, expect to either pay out the nose or be rejected out of hand.
The Bigger the Policy, the Bigger the Premium – Everyone wants to make sure their family is covered. But it will cost you much more each month if you want to leave a massive pile of cash for your heirs instead of just enough to keep the family finances afloat. Particularly if you have a tight household budget, it’s important to balance the current burden of monthly payments against the possible benefits that will be delivered if the policy is needed.
The Longer the Coverage Lasts, the Bigger the Premium – Insurance companies are, at their core, about the business of pooling risk. And the longer time period your insurance policy covers, the more uncertainty and risk they will take on when underwriting your policy.
The bottom line is that whatever structure or benefits you are looking for, most people agree it’s important to have a financial backstop in case of a tragedy. So talk about life insurance with your family.
It may be uncomfortable, but is a crucial part of a healthy household budget.