The primary purpose of getting life insurance will always be to protect the people you care about if something were to happen to you. How much capital would you need to pay off debts, support your loved ones, or take care of all your affairs?
After you understand what priorities you would like to protect through life insurance, it is fairly easy to determine the correct amount of coverage.
What Type Of Life Insurance
The next question is what type of coverage will best serve your needs; to get the right amount of coverage, you also have to make sure that the premiums fit comfortably into your budget.
Term Insurance Benefits
Term insurance is less expensive than whole life insurance because you are renting the insurance. In addition, your coverage is considered pure insurance in this case because it doesn’t develop cash value or participate in company dividends.
Instead, it allows you to get the right amount of protection for the least expensive premiums available. Term insurance has also developed over the years to offer more comprehensive options. For example, you can get a return-of-premiums policy where you pay more during the policy’s life, but the insurance company refunds all of your premiums at the end of the fixed term.
There are also term policies that allow you to lock in your age and health for the remainder of your life so that you can have the coverage and premiums locked in for the rest of your life. Again, this is a great and inexpensive way to obtain permanent insurance.
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How Long Should You Lock In Your Premiums
The longer you can lock in your premiums, the more advantageous it will be in the long run. This is because the insurance company considers the mortality risk during the level period of the term. If you are 35 and get a level 20-term policy, then the rates will be fixed until 55. And because you are locking in the premiums at a younger age, the average risk and rates will be less than if you were to lock in your premiums at 55.
Most people have an insurance need that will last throughout the rest of their lives. If you can permanently lock in a portion of your insurance at a younger age, this can save you substantially on premiums. Unfortunately, it happens quite often where people will have to apply for new coverage after the fixed rates on their current policy have expired and because they are now older and have to pay much more in premiums.
Your health is also locked in when you first take the policy out. Many people looking for insurance in their fifties or sixties deal with some medical condition that makes the cost of life insurance double or triple in cost. The same logic that applies to locking in your age is also good to keep in mind when locking in your health. We don’t know what will happen to us, and if we have our insurance locked in, then our insurability and premiums will be unaffected by a medical event.
Level Term Insurance
I always recommend getting a level-term policy instead of starting lower and increasing premiums each year. This is because the level term policies allow you to lock in your age and health for the remainder of the term, whereas the increasing-premium policies become more expensive every year based on your new age.
Because term insurance is a less expensive way to get the right amount of protection, I believe that it is the right choice for many people looking at life insurance.
Cash Value Life Insurance: When To Consider It
First A Word Of Caution About How The Life Insurance Industry Operates
An agent who pushes one company above the others is doing his or her clients a disservice. Every company has its positives and negatives, and each company has focused on certain demographics to create a competitive edge. There are 17 life insurance companies in the fortune 500 alone. These companies have very similar investment portfolios and conduct business in ways that are more common than not. Eight of these companies are mutual, nine are stock companies, and they all operate to profit. The most important thing that anybody can do is have an agent who can help them shop the market for the company that will fit their needs best. For example, somebody who is a smoker with high blood pressure will have better options outside of the companies that target nonsmokers without health conditions. Finding the least expensive company on the market for your age and health can save you thousands of dollars.
I used to work for an insurance agency where we only sold a single triple-A-rated insurance company. When I worked for this agency, my fellow agents and I were especially inculcated with this company’s whole life insurance benefits. This situation is not unique.
Captive agencies have managers that groom agents to push one company because they get paid commissions when their agents sell these products. Please don’t assume that life insurance agents are experts on the benefits of different companies and types of insurance plans because many of them are unaware of the benefits beyond their own company. Instead of consulting their clients and shopping the market, they push a single product that doesn’t always match up well. There are far too many people being advised agents to consider whole life insurance because they are trained to present the same products to every client.
When You Are Considering An Insurance Company It, Will Always Be Advantageous For Some People And Ill Advised For Others
If you sit down with an agent who goes over a list of benefits about a single insurance company, keep in mind that most benefits are really trade-offs. For instance, if a company is a triple-A-rated insurance company, then they are probably also more conservative with whom they insure. A triple-A rating is great, but it is really only necessary if you plan on participating in the companies dividends or buying their whole life insurance. There is no need to pay extra money for the privilege of having a triple-A-rated company, as many agents insist. A.M. Best considers a company with an A-rating to be in excellent financial health. Many A-rated companies with less expensive insurance offers if you are not planning on participating in your whole life.
When Whole Life Insurance is a Good Idea
For some people, whole life insurance can be a great complement to their financial security. I have sold whole life insurance based on the following benefits.
1) It has a guaranteed return that will consistently build up the cash value in the policy.
2) It gives policyholders permanent insurance so that they are insured throughout their lifetime.
3) It allows them to stop paying premiums after a certain number of years because the dividends from the company will be enough to keep the policy in force.
4) It allows policyholders to take cash from the policy in the form of a loan so that you have another option if liquidity is needed.
5) The growth of the policy is tax-deferred and tax-free as long as the policy is kept in force.
The problem can be that many of these benefits point to life insurance as an asset or investment. Life insurance should always be considered for the death benefit first and foremost. If you have already maxed out both your Roth Ira and 401(k), have at least three months of expenses in accessible savings, and are looking for something else to build up savings, then whole-life insurance can be a good option. The point is that whole life insurance is a good choice when you have the ability to max out your qualified retirement funds and are looking to complement your savings with a conservative tie-in to your life insurance.
Whole life can be a mistake for a couple of reasons.
There are risks when putting your money into whole life insurance. The risks aren’t always clearly explained because the agents focus on the guaranteed dividends that will grow the cash value every year. However, one significant risk is buying into whole-life insurance, paying the premiums for several years, and then not keeping up with the premiums down the road. Life insurance companies bank on this happening to a certain percentage of policyholders.
If this occurs, you are in danger of losing thousands of dollars in paid premiums without the benefit of accumulating any cash value. When a policy lapses or you can’t keep up with whole life premiums, then the insurance company will retain your premiums without you having any cash value built up or any insurance in force.
This whole life policies are structured to have large front-end expenses, and it will take at least a couple of years before your premiums start to build up cash value. It takes about ten years before the number of premiums you put into the policy will equal the cash value in the policy.
How Cash Value In Whole Life Insurance Works
The other risk with whole life insurance is not understanding how the cash value in the policy works and taking out too much of it. The cash value in the policy is liquid, but the insurance company will let you take out about 97% of it to protect against the policy lapsing. Any cash that is taken out of the policy is loaned from the policy at interest.
Let’s assume that you are in the first 20 years of your whole life policy and are taking a loan from the cash value in the policy. The loaned interest rate is 8.0 %, the non-loaned dividend interest rate is 6.85%, and the loaned-dividend interest is rate is 7.9 %. Notice that the insurance company steps up the interest rate on the loaned amount or the amount borrowed from your cash value. This mitigates the loan cost, but the loan still creates an ongoing obligation to pay interest. For instance, the cost of borrowing here would be 6.95 %.