Why do I need life insurance?
Life insurance has the potential to offer protection at a crucial time for those who matter the most to us. Life insurance needs are different at different times in life. During working years, life insurance may be able to help your loved ones avoid drastic changes in lifestyle in the event of your passing. During retirement, life insurance can be positioned to offer additional tax and estate benefits. Regardless of your life stage, consider reviewing your life insurance needs annually to account for changes in your family situation.
Life Insurance Benefits
It is easy to view life insurance as an obligation rather than an opportunity—and an obligation that can be put off at that. But life insurance offers many benefits.
We all know life insurance can provide funds to pay your last expenses—including estate taxes and other costs. Life insurance potentially may be able to replace your income and help to maintain your family’s standard of living after you die.
In addition, life insurance may be able to protect your family’s home by paying off the mortgage and other debts.
The proceeds of a life insurance policy can be used to pay others to do some of the tasks you do routinely, such as caring for an aging relative or a child.
Life insurance has the potential to ensure that your children or grandchildren have the funds to go to college.
Life insurance can provide supplemental retirement income for your spouse or partner.
A life insurance policy may be able to provide funds to help settle your estate—to equalize otherwise unequal gifts to children, for example.
And life insurance can be used to pay expenses incurred to keep your small business in the family.
Why do people say they need more life insurance?
About 50 million households—roughly 40%—say they need more life insurance.
The numbers bear this out. In 2002, 15.0 million individual life insurance policies were issued. In 2017, only 10.5 million were issued. This drop in the number of policies may have many causes, but the result is fewer families with the protection of life insurance.
One reason may be that people vastly overestimate the cost of life insurance, believing, on average, that it costs three times as much as it actually does.
Several factors will affect the cost and availability of life insurance, including age, health, and the type and amount of insurance purchased. Life insurance policies have expenses, including mortality and other charges. If a policy is surrendered prematurely, the policyholder also may pay surrender charges and have income tax implications. You should consider determining whether you are insurable before implementing a strategy involving life insurance. Any guarantees associated with a policy are dependent on the ability of the issuing insurance company to continue making claim payments.
Sources: American Council of Life Insurers, 2018; LIMRA, 2018
How much life insurance do I need?
Life insurance is a contract between you and an insurance company. Under this arrangement, the insurance company agrees to pay your beneficiaries a specific amount of money when you die. In return, you agree to pay a premium—either as regular payments or as a lump sum. Remember, any guarantees associated with a policy are dependent on the ability of the issuing insurance company to continue making claim payments.
The insurance companies have developed a number of variations on this arrangement, but it forms the basis of all insurance policies.
There are general estimates available based on multiples of income. However, if you are looking for a more accurate estimate, consider completing a “DNA test.“ A DNA test is a “Detailed Needs Analysis“ that takes into account a wide range of financial commitments to help better estimate insurance needs.
The first step is to add up needs and obligations.
Start with your family’s short-term needs. How much will it cost to cover your final expenses, such as a funeral, final medical bills, and any outstanding debts, such as credit cards or personal loans?
Next, look at your family’s long-term needs: how much will it cost to maintain your family’s standard of living? How much is spent on necessities like housing, food, and clothing? Also, consider factoring in expenses such as travel and entertainment. Answering the question, “What would it cost a year to maintain this lifestyle?“ is a good place to start.
Finally, look at your family’s future obligations. Will aging parents need some kind of support? Will children or grandchildren need help with college costs? And so on.
Next, take a hard look at your family’s liquid assets.
Liquid assets are assets that can be redeemed quickly and for a predictable price. Generally, houses and cars are not considered liquid assets since they may require time to sell and because selling them may adjust your family’s standard of living.
Needs and obligations—minus liquid assets—can help you arrive at a better idea about the amount of life insurance coverage you may need.
Keep in mind that this is just a quick exercise. While it’s a good start at understanding your insurance needs, a more detailed review may be necessary to better assess your situation.