Picking the right life insurance is tricky. Should you go with the absolute cheapest coverage, term? Or is it better to buy a cash value policy such as whole life? What other choices do you have (such as return of premium) which may work better in your situation? Like many personal finance decisions, the right type of life insurance depends entirely on your individual needs. The purpose of this article is to help you assess your needs and find the right type of insurance. As always, feel free to contact me directly if you seek professional help with this.
In terms of initial considerations, you want to decide how much insurance you need and for how long. And, you need to consider these factors in the context of what you can afford. Say for example you are 35 years old, earning $100,000 per year and just had your first child. You may be purchasing life insurance with a dual purpose: for your spouse to have additional funds in the event of your untimely death and to have available funds to pay education costs for your child. In this case, you may calculate that 20 years is the term you wish to cover and that a 1M death benefit should be sufficient to cover these needs. If you can only afford term insurance (no cash value build-up) you would be looking into a 20-year term policy with 1M of coverage.
Now, let’s say for example that you earn $200,000 and can afford to pay a higher premium for the benefit of having both the death benefit and building up cash value within your policy. This may be a savvy financial move which gives you a valuable asset down the road. The policy’s cash value can be accessed for various purposes such as retirement, education costs, etc, through the policy loan feature. Cash value policies generally consist of whole life, universal life, and variable life. Whole life is pretty clear cut in its purpose – to last your whole life and provide that death benefit to your beneficiary. If you purchase the policy at 35, you’ll be given a premium amount which you pay each year for the rest of your life to guarantee that the death benefit is paid to your beneficiary.
Universal life is similar in that it is a permanent form of insurance. However, the policy features including the death benefit and premium payments are a bit more flexible. There are some moving parts with universal life including the charges by the insurance company to cover the death benefit along with the interest rate credited to the account, which vary with the broader economy.
I want to talk briefly about another type of insurance called return-of-premium insurance. It acts as a term policy with a savings feature. At the end of your term (say, 20 years) you get back all the premium payments which you’ve made over the past 20 years. The idea is that you pay more than you would for a basic term policy but not nearly as much as would be necessary for permanent insurance. You utilize the policy to get you through a period in which your lost earnings in the event of death would be difficult for your family. Assuming you live through that time period, you get a check back at the end of your term to be used for anything. I think it’s a good option for people who look at term as simply throwing money away but can’t afford whole life.
When you start the process of buying insurance, your agent will run quotes for you. They will often run the quotes from several life insurance companies to illustrate what the difference in cost would be. One might think the price should be nearly identical from multiple insurers offering quotes for the same term and same amount of death benefit coverage. That is not exactly the case. Especially with cash value policies, the internal features are often a bit different, accounting for the slight difference in premiums. You also might pay up for a highly rated insurer over a small insurer because, at the end of the day, the ability to collect your claim is based on the insurer properly managing their cash flow and business operations. Fortunately insurance companies have state oversight so it’s extremely rare that an insurer misuses its general fund and/or defaults on a claim.
I’ll leave the discussion here for now but I encourage any of my readers to e-mail or call me with more specific questions.