How Can Life Insurance Be Used
- Mr. Organic
- Jul 27, 2019
- 4 min read
Protection at Its Core
Life insurance is an extremely influential part of any financial plan. At the most basic level offering protection for a period of time, or possibly used to set up to create an income stream for retirement.
The main goal is for you to leave this page feeling educated on the types of insurance and the advantages/disadvantages of each type.
Basic Concepts of Life Insurance:
First, it is important that you have some basic grasp of how life insurance operates. As always, I've broken it down to try to keep it as simple as possible!
Age:
The younger and healthier you are the less expensive life insurance will cost.
On the same note the older you are,the more you pay more for the same policy.
The general nature of life insurance is as your age increases the price of the death benefit increases because you are that much closer to life expectancy. In short, the closer you are to death, the more expensive it is buy a life insurance policy.
Underwriting:
Policies are medically underwritten or non medical.
Non-medical policies will not require any in person medical exams, and will use information from your medical history, and answers on the application. This will result in a higher premium typically. If you do not like the idea of a medical exam, or are of average health, this may be a good route for you.
Medical policies require an examination where blood and urine is typically taken. **If you are young and healthy having your policy medically underwritten will be of great benefit and worth the extra little time it takes! This is because it will be much less expensive for the entire time you hold your policy. (which could be your whole life!)
Policies can be given preferred rates for healthy individuals, and on the other hand medical issues may cause an increase in premium.
Types of Life Insurance:
Term Life
Most inexpensive type of life insurance. Typically for a period of time like 10, 15, 20, 25, 30, or 40 years.
There are also products such as Term 75 which will maintain level premiums until age 75.
The maximum insurance death benefit a company will provide you (also known as Human Life Value) is based on your age and income.
Advantages:
Premiums: Cheapest option available and provides level premium payments for the term chosen.
Can be matched to a specific need. For example a $400,000 30-year mortgage can be paired with a $400,000 30-year term policy.
Can also be used to protect your income at a low cost, and replace what you would create over your life time in the case of premature death.
Riders: Can add a limited amount of riders to some term policies such as disability.
Disadvantages:
Premiums: It will cost a lot more to renew your term policy. A 30 year old can expect to pay 6-7 times as much in life insurance premium at a age 60 for the same death benefit!
Term is great for temporary coverage, but if you are wanting to utilize a death benefit in retirement term will not be ideal.
Term insurance provides no cash value
Typically there is no availability to increase death benefit unless another policy is purchased.
Whole Life & Variable Life
Used to provide a lifetime death benefit as well as cash value.
Participating Whole Life (Dividend Paying) & Variable Whole Life (Market Participation)
Advantages:
Premiums: Guaranteed level premiums and death benefit.
Cash-Value Participating: Participating whole life policies provide more consistent dividends, and can also be used as an "income buffer" in retirement if market assets fall, and you don't want to make withdrawals while they are down.
Dividend paying whole life policies do not correlate with the market.
Cash-Value Variable: Variable Whole Life is the opposite. The sub-accounts are invested in the stock market typically through a selection of mutual funds.
This cash-value can be used to create an income stream in retirement. Also know as a life insurance retirement plan.
This can offer much more potential for growth on the upside. Also, this growth is tax-deferred the same as a qualified retirement account like a 401(k).
Riders: Normally a much larger array of riders are available. Such as a long term care rider.
Disadvantages:
More cost associated with whole life insurance.
Riders: Ironically this is both an advantage and disadvantage. There are a lot of additional riders in a typical whole life or variable life contract, and sometimes you can be sold on "extras" you don't need or will not use.
Be sure you are only paying for what you need. Ask your trusted financial adviser what each rider is and why they chose to put it on the policy for you.
Cash-Value Variable: Can have large market swings depending on the investments inside the sub accounts.
Universal Life
Cash value growth is dependent on current interest rates.
Advantages:
Provides for more flexibility in premium payments and death benefit.
This if often a good option for an individual with fluctuating income, or incoming life changes (such as becoming married, having a child, or buying a home).
Disadvantages:
With this flexibility comes a loss of guarantees. Because universal life is basically a "buy term and invest the difference" in one policy, you must keep in mind that the cost of insurance does increase as you age.
What this means is that if you do not fund the policy with enough cash when the costs are low, you may be at risk of lapsing the policy and having no cash value as the costs of the death benefit increases.
I have personally seen this happen, and it is extremely unsettling when someone has had a policy for 50+ years and it lapses for no benefit to them.
Keep in mind: universal life policies are sometimes sold at the minimum. This means that it will look very appealing and cheap compared to other whole life polices, but most likely it is simply being underfunded.
Variable Universal Life
This type of policy is mash between variable life and universal life.
Will provide underlying investments with more growth potential as well as loss potential because the sub accounts are invested the stock market.
Provides for flexible premium payments and death benefits.
All other advantages and disadvantages stated under universal life are true for a VUL policy.
Working with a good life insurance agent can help you determine what policy is best for you and your family.
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