How to understand term vs. permanent life insurance and what coverage you need
Unfortunately, you won’t always be here to provide financial support for your loved ones. But life insurance can help you leave them a secure financial legacy. Life insurance is an insurance policy that, in exchange for your monthly premium payments, provides a pay-out to your chosen beneficiary after your death.
Life Insurance as Income Replacement
Most people buy life insurance because their dependents will need income after they die. Important questions to ask yourself include:
- Who depends on you for income? Consider your spouse, children, aging parents or others who need your financial support now or in the future.
- How long will dependents need your income? Coverage can last for a defined period or indefinitely.
- What is your goal? Do you want to ensure a certain living standard for your family? For how long?
- Who should be your beneficiary? Decide between your spouse, child, or a trust.
Term insurance is often the most cost-effective and appropriate choice for younger people who are building their wealth. Permanent insurance can be considerably more expensive depending upon the policy design.
How Term Life Insurance Works
You pay premiums for pre-set terms (typically 10, 15, 20, 25, 30 years). The length of the term, amount of the death benefit, your age, and your health determine your monthly premiums. Coverage continues as long as payments are made on time, and it stops at the term’s end. If you pass away within the term, your beneficiary receives a death benefit.
Calculating Your Policy Needs
Outstanding debt payments, such as mortgages, are easily quantifiable. But calculating the replacement of a lifetime’s earnings is much more complex.
First, decide if your beneficiary will need to live off your income. Then calculate how much money your policy will need to generate, and for how long. For example, to replace a $100,000 per year income for 20 years with a 7% inflation rate, you would need about $1,060,000 of insurance.*
Life Insurance for Estate and Charitable Planning
Through comprehensive legal and estate planning strategies, you can use permanent life insurance to minimize taxes and ensure the maximum amount of wealth transfers to your heirs or charities. You and your spouse can get a policy that covers both of you and pays a death benefit upon the death of the second spouse.
In some cases, charitably inclined couples and individuals may use permanent life insurance to create a more substantial charitable gift than they might have without insurance.
If you have specific wishes for how the proceeds are spent, consult an attorney who specializes in estate planning. In certain circumstances, a carefully designed trust can be used to purchase an insurance policy with the insurance value excluded from your estate.
Before You Buy Life Insurance…
- Seek objective advice. Consider evaluating and prioritizing all of your potential insurance needs with an independent and objective firm.
- Work with an independent broker. Choose a broker who works with multiple firms, will assess your needs and risks, and then determine which companies give the best value for your needs.
Life insurance is a good way to ensure your loved ones’ future success. But the burden of planning is too much responsibility to bear on your own.
To learn more about how to financially plan for other life pivot points, click the links below:
- Financial Planning First Steps
- Basic Savings Advice
- Planning Ahead for a Loss
- Buying a Home
- Job Transition
- Planning for Retirement
- Birth of a Child or Grandchild
- Understanding 401ks
- Separation or Divorce
*Note: These statistics are hypothetical and should not be used as the basis for determining how much coverage you need.