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Life Insurance
Many people avoid talking about life insurance because they think they can't afford it or because it might seem a bit morbid to talk about death. However, it is important to consider life insurance as soon as you and your partner join households and become financially dependent on each other.
Starting this discussion early in your relationship is prudent, as life insurance is less expensive the younger and healthier you are. The cost of life insurance increases as you age because your risk of death increases as you age. People find it harder to get cost-effective life insurance as they grow older and develop medical conditions that make them less insurable.
People often purchase life insurance to protect their loved ones and provide money to help with a mortgage, medical bills or other unexpected costs.
Employers often offer life insurance as a benefit to their employees. These group policies do not typically require a medical exam. The downside of employer-sponsored life insurance policies is that the death benefit is usually less than what the covered person’s family would need, and the policies typically end when employment at that company ends.
Purchasing life insurance is not a one-and-done endeavor. It is something that couples should re-evaluate as life circumstances change. Early in a relationship, your goals might include buying a house and paying off debt, while later, you might have kids and retirement to consider.
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Importance of Life Insurance for Financial Security
Life insurance is a contract that provides your beneficiaries with financial support when you die. You make regular payments to the insurance company throughout the policy term. In return, the company pays your beneficiaries a set amount of money at your death. This money is intended to lessen the financial impact of the policyholder's death. The beneficiaries can use this money to pay for a funeral, help kids get through college, pay off a mortgage, or support the surviving partner into retirement.
Start by considering your financial responsibilities, including mortgage/rent, car payments, credit card debt, educational expenses and childcare expenses. If one partner dies, will the surviving partner be able to pay for those expenses on their own? If not, life insurance can help to bridge the gap.
While some life insurance calculators suggest multiplying your income by 10 to determine how much life insurance you need, it is a misconception that only employed partners need life insurance. The death of a stay-at-home parent could also have significant financial impacts on a family. Purchasing life insurance for both parents is a good option to help provide for things like childcare, outstanding bills or other needs.
One final financial factor to consider is the cost of premiums. Life insurance premiums are usually based on the combined risk of both individuals named on the policy. This can result in lower overall costs for couples when comparing to individual life insurance policies.
Types of Life Insurance Policies
There are many types of life insurance policies; the two most common are term life insurance and whole life insurance. Term life insurance is valid for a fixed period, usually 10-30 years or up to a certain age. Whole life insurance will cover you for the remainder of your life, as long as you continue to pay the premium.
Term life insurance: Term life insurance is typically less expensive than whole life insurance because the policy expires at the end of the term, and there is no cash value. One reason to choose term life insurance is if you know that your financial responsibilities will be less at the end of the term. Many people purchase a term life insurance policy to cover them through their children's college years.
There are a few different types of term life insurance policies:
Some term life insurance is convertible, meaning you can convert it to a whole life insurance policy without getting a medical exam. Be aware of time limitations on such provisions if you plan to convert your policy.
If you stop making premium payments on your term life insurance policy, it will end. Some people end their policies when they pay off their mortgage or their kids are out of college.
Whole life insurance: This type of life insurance covers your entire life, and the premium amount remains at the same level throughout the policy. Because of this, the premium paid at the beginning of the policy exceeds the cost of protection, and you build up a reserve that helps pay for the policy in the later years.
This reserve has cash value, which can be seen as a savings vehicle as it builds value over time at a fixed interest rate. The policyholder can access the cash value by taking out a loan against the policy and then repaying the loan with interest. If there is an existing loan when the policyholder dies, the remaining loan amount will be withdrawn from the life insurance payout before the beneficiaries receive it.
If a policyholder stops paying premiums on a whole life policy or closes the policy before death, they will receive the cash value of the policy minus any outstanding loan. They may also have to pay a surrender fee and taxes on earned interest.
Determining Coverage Needs
How much life insurance do you need? Should both partners carry the same amount of life insurance? What if you are in a situation where one partner does not earn an income? There are lots of questions that go into assessing how much life insurance coverage you need.
You can find many different life insurance calculators where you can input details like your age, household income, family composition and outstanding debts. These calculators will suggest a range of life insurance policy amounts. While this is a good start, there's quite a bit more that should go into this calculation.
Financial obligations you should consider when determining what amount of life insurance is appropriate:
When determining how much life insurance coverage you need, you will also want to ensure the premium is an amount you can afford. If you stop paying the premium, the policy will end, and your beneficiaries won't have this protection available at the time of your death.
Naming Beneficiaries and Adjusting Policies as Needed
When setting up a life insurance policy, you must designate your beneficiaries. Who to select as beneficiaries is an important decision, as your beneficiaries cannot be changed after you die.
There are two types of beneficiaries: primary and contingent. Your primary beneficiary is the person or persons who are first in line to receive the life insurance payment when you die. Primary beneficiaries typically include a spouse, children or other family members.
Contingent or secondary beneficiaries will receive the life insurance payment if the primary beneficiary dies before the person covered by the policy.
You can also name a trust as a primary or contingent beneficiary. Naming a trust is a popular option for parents of minor children. If a child receives a life insurance payment while they are still a minor, the payment might be sent to their legal guardian, and the child may only be able to access the money once they are of legal age. A trust can provide for this situation and allow funds to be used while children are still minors.
Charities and other organizations (like universities) can be designated as beneficiaries under life insurance policies. You can leave all or a portion of your life insurance proceeds to a college or non-profit you are passionate about. This is an impactful way to leave a legacy.
It is important to thoughtfully consider who you designate as your beneficiaries, because life insurance does not go through probate at the time of your death. This is because life insurance proceeds are not money you own or part of your estate. Instead, it is money that the life insurance company is contractually obligated to pay to your beneficiaries at the time of your death.
You should update your life insurance beneficiaries as your life circumstances change. Consider updating your life insurance beneficiaries if you and your partner divorce. If you have additional children, this would also be an excellent time to update your beneficiaries. Conversely, you would want to update the beneficiaries on your life insurance policy if one of them dies.
Learn More About Life Insurance
Life insurance underwritten by our affiliate, AAA Life Insurance Company, Livonia, MI. AAA Life (CA Certificate of Authority #07861) is licensed in all states except NY. Products and their features may not be available in all states. ALAN-XXXXX-724-XX