Life insurance isn’t much fun to think about, which is one of the reasons over 40% of Americans don’t have any coverage. However, life insurance is a key part of a sound financial plan and protects your family if a caregiver or income provider passes unexpectedly.
There’s no such thing as a one-size-fits-all life insurance policy. The needs of your family may differ from the needs of your neighbors. Read on to learn how to buy life insurance, including an introduction to the different types of coverage and how to choose a coverage amount that’s right for your family’s specific needs.
What is Life Insurance?
In its most basic form, life insurance is income replacement. In fact, that description is the basis of some older rules of thumb for calculating life insurance needs. However, this simpler definition overlooks some key features of life insurance and can exclude caregivers (who may or may not have an income) from coverage consideration.
Life insurance is a financial planning tool that provides income replacement but that can also provide for new expenses your family might face if a loved one passes. It’s no fun to think about, but the passing of a loved one can change everything in an instant. Income is only one consideration.
What to Consider Before You Get a Life Insurance Policy
In addition to becoming familiar with life insurance costs and payouts, it’s important to understand the common types of life insurance policies before you make a purchase. Life insurance has two primary categories: term life insurance and permanent life insurance.
Both term life and permanent life insurance have multiple categories within them, including variations that may bring more flexibility or more value. While this can seem to add to the confusion, for many households, having just one life insurance policy might not be the best solution. It may be that a combination of policy types is needed to meet both long-term and short-term needs.
Term Life Insurance
If your goal is to buy a simple life insurance policy that protects your family for a limited amount of time, term life insurance may be the answer. The term refers to the amount of time the policy requires guaranteed premiums and can range from five to 30 years. Term life insurance is often used when there is a financial obligation that has an expiration date.
Loans, like 30-year mortgages, are a common example. Another example is starting a family. Raising a child is an ongoing financial commitment that may last up to two decades.
The goal of buying term life insurance is to provide a way to continue paying for your financial commitments. Without life insurance, your surviving family may be forced into some difficult financial decisions, perhaps putting your home at risk or sidelining college plans.
A 20-year term policy is the most popular type of term policy, as it strikes a balance because it’s long enough to cover most obligations and is still affordable. You’ll also find some other types of term policies available:
Group Term Life Insurance
Commonly offered through employers as a benefit or offered through professional guilds, group term life insurance is the type of policy most people have. This policy type has its drawbacks, however.
First, the coverage amount is typically well below the needs of most households. Also, the policy usually isn’t easy to take with you if you change jobs or lose your job, meaning you can lose your coverage as well. It’s best to think of group term life insurance as a supplemental policy. If it’s available to you at no charge, there’s no reason not to take the coverage but consider buying a separate policy that you control.
Return of Premium Term Life Insurance
Designed to address a common criticism of term life insurance, return of premium term life insurance does what its name suggests: If you reach the end of the term without a claim, your premiums are returned to you. With a standard term life insurance policy, your premiums aren’t ever returned.
Expect premiums to be a bit higher with a return of premium term life insurance policy and be sure to read the fine print. Some policies only return the base premium, which means a partial return of premium.
Permanent Life Insurance
The alternative to term life insurance is permanent life insurance, which also comes in several types. Rather than address a limited time frame, permanent life insurance is designed to last a lifetime. However, there are different ways of reaching that goal, depending on the type of permanent life insurance you choose.
Whole Life Insurance
Whole life insurance is what most people think of when they think of permanent life insurance. The policy has both a savings component and a death benefit.
This type of policy builds cash value over time, and the policy can be borrowed against or even sold. Another type of life insurance for seniors over 50 is a final expense insurance policy, which is a whole life insurance policy with simplified underwriting and a limited death benefit designed to pay for final expenses — but not much more due to the limited coverage amount.
Universal Life Insurance and Variable Life Insurance
Universal and variable life insurance both combine an investment element with an annually renewable term life policy to build a permanent life insurance solution.
For some households, however, this solution is less permanent because the policy can become expensive in later years. It’s important to fund these types of policies well in the early years to prevent the future cost of insurance from outrunning the policy’s earnings. Universal and variable life insurance can be affordable alternatives to traditional whole life insurance, but both have risks as well.
Who Needs Life Insurance Coverage?
A common perception is that you only need life insurance coverage for the income earner in the household. However, if your household has a stay-at-home parent with limited income or perhaps no income at all, consider buying life insurance for them as well. It’s too easy to overlook the value of a stay-home-parent. If you had to replace all the services they provide daily with paid providers, the cost would be staggering for most families.
How Much Life Insurance Do I Need?
There are several rules of thumb commonly used to calculate how much life insurance to buy. Rather than relying on rules of thumb, do the math instead to ensure accuracy. To arrive at a figure, add up your long-term obligations and then subtract your assets — as well as coverage provided by other policies, like a group term life policy you have through work.
Let’s say you want to provide your family with 80% of your $50,000 income for a duration of twenty years, or $40,000 per year. You also have $100,000 in debt, including the cars and mortgage, and you want to provide $50,000 for your children’s education. You expect $10,000 in funeral expenses as well.
$40,000 x 20 = $800,000
$100,000 + $50,000 + $10,000 = $160,000
So far, you’ll need $960,000 in life insurance coverage.
But you also have $150,000 in savings and non-retirement investments as well as a $50,000 life insurance policy through your employer.
Subtract $200,000 from $960,000 to arrive at $760,000 in coverage for your family.
Repeat this math process for each person you’re insuring in your household to determine coverage amount for each. For most families, you’ll need to cover two people.
Life insurance rates go up with each passing year. Waiting until later lead to much higher premiums. Also, there’s a chance of developing a health condition that can affect rates or even make you uninsurable. If you can buy now, don’t wait.
How to Get Life Insurance
The internet is a good starting point for price comparison and research. It’s important to understand, however, that policy details can vary from one policy to the next and advertised prices probably aren’t what you’ll pay.
Step 1: Talk To Your Insurance Agent
Many well-known insurance companies famous for home or auto insurance also sell life insurance. Be aware that captive agents who represent one company may not be able to offer as many options as independent agents. However, it’s likely that you’ll be able to earn a discount on your existing home or auto insurance policy by bundling a life insurance policy with the same insurer.
If the discount can pay for part of your life insurance premium, it’s worthwhile to invest some time to learn what they have to offer.
Step 2: Shop Online for Life Insurance
It isn’t always necessary to sit down with an agent to secure coverage. Many of the best life insurance companies provide a way to start the process to buy life insurance online. The process won’t be completely digital.
Expect to speak with an agent by phone as well as by email. This is a good opportunity to ask any questions you may have. Don’t feel pressured to buy, however. Insurance isn’t in limited supply. Your life insurance policy will be part of your family’s financial plan and you’ll want to choose the right policy for your needs.
In the end, you may speak with more than one company to find the right policy. Be prepared for follow up calls and emails.
Step 3: Physical and Application
Your life insurance rates are based on your age and the amount of coverage you need, but overall health is also a big factor as are your hobbies and vocation. Think of your life insurance premium as a reflection of your mortality risk. Some people are more at risk than others.
Part of the process of buying life insurance is completing an application. Expect health-related questions as well as family history questions. The application will ask about nicotine use as well. Be sure to answer all questions truthfully. If an insurer finds out that you weren’t honest on your life insurance application, the policy can be voided.
Also, expect a physical exam for most types of life insurance. Some policies are available without an exam, but these policies may require medical records or may have lower coverage limits. Rates are likely to be higher for no-exam policies as well.
Step 4: Choosing Beneficiaries
Your beneficiary is the person who gets your life insurance when you die. In most states, minor children can’t be named as beneficiaries.
Most commonly, a spouse is chosen as a beneficiary, but if you’re a single parent, consider choosing a trusted guardian or establishing a trust as the beneficiary and assigning a trustee you can count on to protect your children’s welfare.
When you make a major purchase like a home or even a car, you spend some time learning about your options and the pros and cons of each choice. Your life insurance policy will protect your family for longer than most other purchases you might make. It makes sense to invest in the process and find the best solution for both your short-term needs and your long-term needs.