Life Insurance

Why Should I Have Life Insurance?

Are you wondering whether life insurance is worth the investment? This in-depth guide explores some of the benefits of life insurance, the costs involved, and a few common policy types you may want to consider.

Why Should I Have Life Insurance

Taking the time to learn about the importance of life insurance coverage can ensure your family is financially protected if you are no longer there to provide for them. It is normal avoid thinking about your own death, but 106 million adults in the U.S. either do not have life insurance at all or do not have sufficient coverage. Yet only 47% of households that do not have life insurance say they are confident that they would be financially secure if the primary wage earner unexpectedly passed away. Life insurance coverage should be part of your planning for the future.

Is Life Insurance Worth It?

If any of your loved ones would be left in financial distress due to your unexpected death, then you may benefit from owning a life insurance policy. A life insurance policy can typically provide a death benefit that is greater than the amount you could save up during your lifetime. In addition, there are other important benefits that can come with owning a life insurance policy. Here’s a look at some of the things your beneficiaries can do with the death benefit. 

Pay for Your Burial Costs

The expenses of burial can catch many by surprise. In 2021, the national median cost for a funeral with cremation was approximately $6,971, while the average cost for a funeral with a viewing and a burial was approximately $7,848. This includes approximately $2,500 for a metal burial casket. However, some caskets made of materials like copper, bronze, or mahogany can sell for as much as $10,000.

If you plan to have a funeral reception, memorial service, or celebration of life, you may need to budget for these too. This may include the cost of a facility rental, food and beverages, and other expenses.

The death benefit from a life insurance policy can help offset these costs, allowing family members to arrange for final services without jeopardizing their own financial security.

Settle Your Outstanding Debts

If you currently have outstanding loans, like a mortgage, business loan, or vehicle loan, you may want to make sure that your loved ones won’t be leftpaying the bills after you pass away.

Generally, the assets in your estate are used to pay off your debts after you die. If there isn’t enough money to cover the total amount, some debts may go unpaid. However, depending on the type of debt and how it is structured, other people may end up being responsible for paying the remaining balance. For example, if you have a debt with a co-owner or someone has cosigned for you, they may be held accountable for the remaining balance after you die.

Also, in community property states, the surviving spouse is responsible for debts left by their deceased partners. In other states, surviving spouses may be held responsible for specific types of outstanding debts, such as medical bills.

Ensuring you have a life insurance policy with a death benefit that is high enough to pay off these debts can prevent your loved ones from having to pay the balances out of their own pockets. Some life insurance policies are also structured specifically for debts that will decrease over time. For example, a term life policy with a coverage period that matches the term of the loan can be a cost-effective option for debt protection.

Financially Support Your Loved Ones

Income replacement is a primary reason for having a life insurance policy, and death benefits are also not taxed, providing an additional advantage for survivors. The policy’s death benefit can be used however the beneficiary sees fit. It can help to pay the portion of the expenses your income once covered. It can also help pay for new costs that arise, such as childcare and domestic service costs for those with dependent children. The death benefit could also be saved to help fund future investments, such as your children’s college tuition, weddings, and other expenses, as well as ensure your spouse can continue to live comfortably.

Living Benefits in Cash Value

Permanent insurance policies such as universal, whole life, variable universal life, and indexed universal life typically have a cash value component in addition to the death benefit. This is also called a living benefit since you may be able to access the funds while you’re still alive.

When you pay your insurance premiums, a portion of your payment goes toward building up your policy’s cash value. This money accrues interest on a tax-deferred basis, allowing it to grow tax-free until you access it. This essentially allows you to use your life insurance as an additional source of money.

There are several ways to access a life insurance policy’s cash value, such as making a withdrawal. If you withdraw less than you deposited into the cash value of your policy, you can receive the funds tax-free. However, the withdrawal reduces your death benefit. Another option is to take a loan against your cash value. In this case, you can also receive the funds tax-free, but if you die before you pay the loan back, your beneficiaries would receive a lower death benefit.

You can also surrender the policy and take the entire cash value. However, this terminates your life insurance coverage, and so should be done with caution. 

Is Life Insurance Mandatory?

There are no federal or state requirements for anyone to carry life insurance. However, many individuals find that this coverage helps them to meet their financial goals. Also, those looking to adopt a child may be required to have an active life insurance policy in place.

The Cost of Life Insurance

The cost of life insurance can vary depending on a variety of factors, such as your age, your health, the type of policy you choose, and the amount of coverage you purchase. As you consider how much your life insurance policy may cost, ask yourself the following questions:

How Much Life Insurance Do You Need?

Figuring out how much life insurance you need is key to making sure you’re properly covered while also avoiding over-spending. There are several methods you can use to estimate your needs. One of the easiest options is to select an amount that is 10 times your annual income. For example, if you make $80,000 per year, you may consider purchasing a policy with an $800,000 death benefit.

The DIME method is another, more precise option. This factors in 4 key financial elements:

  • Debt – all existing debt that would need to be repaid
  • Income – your annual income multiplied by the number of years you want to replace
  • Mortgage – your remaining mortgage balance
  • Education – the cost of education for each of your children

The combination of these expenses can give you an estimate of the total death benefit you need to cover all financial obligations if you were to die today.

While simple calculations such as this can give you a general idea of the amount of coverage you need, a financial professional can make a full assessment and give you a more accurate estimate of your coverage need.

How Is Your Life Insurance Premium Calculated?

There are many variables that impact how a life insurance premium is calculated. Your life insurance premium is the amount the insurance company charges you in exchange for your coverage. Premiums may be paid on a monthly basis or at annual, semi-annual, or quarterly intervals. 

Factors that impact your premium amount include your age, gender, and health history. For policies that require a medical exam, the results may also impact your premiums. Policies with a higher death benefit typically cost more than those with a lower benefit, and permanent insurance, which lasts for your entire lifetime, is typically more expensive than term insurance, which only lasts for a set period.

Do You Need Any Additional Coverages?

Sometimes, adding a life insurance rider to your policy or purchasing a second policy for additional coverage can make sense. A rider is an optional endorsement or additional feature that you can add to your policy, typically for an additional cost. This can allow you to cover certain life events that are not included in your standard policy.

For example, you may add a rider that lets you access part of your death benefit while you’re still alive if you are diagnosed with an eligible illness or long-term disability. Other riders increase the death benefit if you pass away due to accidental causes or cover your premium payments if you become disabled and are unable to work.

In some cases, you may benefit from purchasing an additional policy to cover a specific risk. For example, you may have a permanent policy in place, but purchase a term policy to cover your mortgage debt or your children’s education expenses. Since these aren’t lifetime expenses, taking this approach could allow you to spend less on your permanent insurance and only pay for the other coverage during the time it’s needed.

If you have employer-sponsored life insurance, it’s important to find out if the coverage continues after your employment has terminated. Oftentimes, it does not, which can leave you without proper coverage. For this reason, you may consider purchasing your own policy outside of your employer-sponsored policy.

Common Life Insurance Options

Term Life Insurance

Who it is best for: Those looking for short-term coverage; those who want more affordable coverage now before converting to whole life insurance later.

Term life insurance guarantees the payment of a stated death benefit if the covered person dies during the coverage period, as long as you pay your premiums. Once the period is over, the policyholder can allow the policy to terminate, renew it for another term, or convert it to permanent coverage if eligible.

Term policies generallydo not have any cash value or a savings component. Because of this and their limited coverage time, they are typically a low-cost option. It’s common for term policies to last for 10, 15, or 20 years. This can make them a viable option for covering expenses that may not last for a lifetime, such as mortgages and business loans. However, if you need lifetime coverage, term insurance might not be right for you because term life policies tend to renew at significantly higher premium rates.

By the time your policy term ends, you may also find that it’s too expensive to purchase a new term policy, or you may have developed health issues that prevent you from being eligible for some types of life insurance. This can leave you without sufficient coverage.

In addition to standard term life insurance policies, term insurance is also used for specific types of protection. Some common options include:

  • Renewable term life: A renewable term life policy guarantees you can renew coverage up to a specified age, even if you develop health problems or other issues that would prevent you from getting a new policy.
  • Decreasing termA decreasing term policy tends to be more affordable than most term life policies because while premiums remain level throughout the term period, the death benefit decreases over time, making this an affordable way to cover temporary liabilities, like credit card debt.
  • Mortgage term life: A mortgage term life insurance policy pays the lender if you die before your pay off your mortgage debt. This is typically a decreasing term policy and usually does not require medical underwriting.

Whole Life Insurance

Who it is best for: Those looking for lifelong coverage; those looking for living benefits

Whole life insurance is a type of permanent insurance. As long as you pay your premiums on time, your policy stays in place for your entire lifetime. Some typical key features of a whole life policy include:

  • Fixed premiums that are not impacted by market fluctuations
  • The ability to withdraw funds or take out a policy loan
  • Guaranteed death benefit as long as you make your premium payments
  • Cash value that typically earns a fixed rate of interest
  • Tax-deferral on the growth of your cash value

Some policyholders appreciate the stability and predictability that comes with a whole life policy’s fixed premiums and death benefit.

Universal Life Insurance

Who it is best for: Those looking for affordable lifetime coverage with the ability to raise or lower premiums

Universal life is another type of permanent life insurance with a savings component. The typical key features of this type of policy includes:

  • Flexible premium payments that you can raise or lower as your circumstances change
  • Flexible death benefits that you can adjust as your needs change
  • The ability to withdraw funds or take out a policy loan
  • On certain types of universal life policies, cash value may earn interest based on a money market rate or market index
  • Tax-deferral on the growth of your cash value

Policyowners sometimes choose universal life due to the flexibility it offers. However, it’s important to note that some adjustments may deplete your cash value. If it gets too low, you may need to add more funds to keep your policy from lapsing.

Variable Life Insurance

Who it is best for: Those who are not deterred by some risk; those want to take advantage of favorable tax treatment

Variable life insurance policies have a cash-value component, which is placed into subaccounts that are similar to mutual funds. If the subaccounts perform well, the cash value grows. However, it can also decrease if the subaccounts drop. Some other typical key features of a variable life policy include:

  • Option to choose the investment allocation for your policy’s cash value 
  • Potential to earn greater returns vs. a whole or universal life policy
  • The ability to withdraw funds or take out a policy loan
  • Tax-deferral on the growth of your cash value
  • Fixed premiums for the life of your policy

However, a variable life insurance investment may have higher fees and costs when compared to other investment options.

Simplified or Guaranteed Issue Life Insurance

Who it is best for: Older individuals who have delayed getting life insurance; those who have health conditions that would make them ineligible for traditional life insurance; those who need coverage very quickly

Simplifiedlife insurance is a policy that does not require a medical exam, although some policies require a shortened medical questionnaire. Other typical features of these types of policies include:

  • Simplified application process
  • Faster approvals when compared to policies with medical underwriting
  • Generally have lower death benefits vs. other types of life insurance
  • May be more expensive due to the higher risk to the insurer
  • Some require a waiting period before paying the full death benefit

Final Expense Life Insurance

Who it is best for: Older adults who are ready to make end-of-life plans; individuals with severe health conditions

A final expense policy, also called funeral insurance or burial insurance, is an insurance policy intended to cover final expenses and burial costs. The remaining death benefit may also be used to pay the remaining legal or medical expenses that your beneficiary needs to settle. Some of the typical key features of these policies include:

  • No medical exam necessary
  • Streamlined application process with quick approval times
  • Affordable premiums when compared to traditional life insurance
  • Flexibility to pay premiums monthly or annually

However, note that while you may intend for the death benefit to be used for final expenses, the beneficiary could use it however they see fit. For this reason, it is important to choose your beneficiary with great care.

What Type of Life Insurance Do You Need?

To begin narrowing your options for what type of life insurance you need, you can start by deciding whether you need term or permanent insurance. Be sure to consider your budget and your goals. For example, term insurance may be preferable for those who only have a limited amount to spend or who want to ensure they’re covered for a limited period of time, such as while they are working or while their children are minors. Permanent insurance may be more appropriate if you want to make sure you’re covered for your entire lifetime.

If you have extra funds to invest and are willing to take on a bit of risk, you may consider a variable policy. On the other hand, if you’re looking for a quick policy without medical underwriting, simplified or final expense insurance may be a viable option. 

Choosing the right life insurance coverage can be challenging, but learning about what each type can offer and consulting with an insurance professional can help you develop a plan to ensure you are covered.