If you have dependents, purchasing life insurance to ensure they’re covered – or making sure they purchase a policy that would cover themselves – adds a layer of financial protection in the event that the insured passes away. Once you decide that you need life insurance, the next step is figuring out how much to purchase and what type of insurance will offer you the coverage you need.
If the life insurance coverage is meant to replace income and support your family, you’ll want to think of all the costs that would need to be covered if the insured was no longer around. As you calculate, you’ll want to figure for more than just the loss of wages. You should be sure to also include costs for items such as housing, transportation, child care, and education and the amount of time you’ll need to account for to cover each item. For example, for families you’ll likely want to figure out the costs of keeping a roof over your spouse and children’s heads, living expenses, childcare costs, and education costs (including college tuition) until the youngest children is fully on their own.
Next, identify income available to your family from other sources like Social Security, investments, rental properties, and retirement savings. Insurance can help bridge any gaps between the expenses to be covered and the total income available.
If you’re purchasing life insurance for another reason, the purpose will dictate how much you need. Some of the additional reasons you may want to purchase life insurance would be to:
- Cover funeral costs – Funeral and gravesite costs can be expensive so advanced planning is recommended.
- Pay off your existing mortgage(s) – You may need coverage equal to the amount of your outstanding mortgage balance.
- Help with estate planning – If your goal is to pay estate taxes, you’ll need to estimate your estate tax liability. If it’s to equalize inheritances, you’ll need to estimate the value of business interests going to each child active in your business and purchase enough coverage to provide equal inheritances to the inactive children.
Term Insurance vs. Permanent Insurance
After you determine how much life insurance you’ll need to purchase, you’ll want to decide which type of policy is right for you. Life insurance policies generally fall into two broad categories: term and permanent.
Term insurance is insurance that’s good for a specific period of time. If you die during the policy’s term, term insurance pays out to the beneficiaries you’ve named. If you live past the term set by the policy, the policy doesn’t pay out at all. Term insurance is typically much less expensive than permanent life insurance – especially if purchased while you’re relatively young and healthy.
In contrast, permanent life insurance policies can last until you die, provided you’ve kept up with paying the premiums. As an added benefit, most permanent policies build up a cash value that you may be able to borrow against. Over time, the cash value may also reduce the premiums.
Because the premiums are typically higher for permanent insurance, you need to consider whether the extra cost is worth the benefits. It might not be if, for example, you may not require much life insurance after your children are grown. However, permanent life insurance may make sense if you’re concerned that you could become uninsurable, if you’re providing for special-needs children who will never be self-sufficient, or if the coverage is intended to be used to pay estate taxes or equalize inheritances.
No one likes to think about leaving loved ones behind but proactive planning that includes the right life insurance policy is a prudent idea that can protect your family for many years to come.
If you have questions about insurance planning, which types of insurance to purchase, how much, and for how long, please contact your Untracht Early advisor.