Photo (cc) by Andreanna Moya Photography
Are you ready for this?
September is … wait for it … Life Insurance Awareness Month.
No, no! Don’t go!
I know. The title of this article is a bit of an exaggeration, but only by a little. Life insurance really is life-altering. I don’t just say that as a personal finance writer who’s been covering life insurance topics for years. I say that as a young widow with five mouths to feed who knows firsthand the relief that comes when the life insurance check arrives and you realize – at least financially – everything is going to be all right.
And, be honest, you wouldn’t have clicked if life insurance was in the title, right?
But since you’re here, let’s do a short and sweet overview of your life insurance options. This is for you folks who feel that insurance is too complex for the average person to understand. It’s not. Here are the basics of what you need to know.
After you read this article, head to Stacy Johnson’s excellent primer on how to shop for the best deal.
Term life insurance is cheap
If you live hand-to-mouth, term life is the plan for you. These policies provide coverage for a limited number of years, known as the term. If you die during the term, your beneficiary receives the death benefit. If you outlive the term, you get nothing.
You’re probably asking, what sort of deal is that?
It’s actually a really good deal if you have debt, a family and not a lot of money in the bank. It also operates in a fashion similar to the other insurance products you probably own. Auto, homeowners and renters insurance also take your money and pay out nothing if you never make a claim.
So what do you get with term life? Peace of mind.
Statistically, if you’re a 20, 30 or 40-something, your odds of dying may be low. However, there are exceptions to every rule. If you could spend $25 a month for $250,000 of coverage, would it be worth it to be prepared for that moment when the statistics are no longer in your favor?
Only you can decide the answer to that.
Whole life insurance builds cash value
After term life, whole life is the next most common form of life insurance. These aren’t really a straight insurance policy; they contain an investment component as well.
You’ll spend a whole lot more on whole life insurance, but in exchange for whopper premiums, your policy builds cash value. In other words, your insurance company takes a portion of what you pay and invests it for you. Most guarantee a minimum rate of return, and after a certain period of time you may have the option to tap into that return, called the cash value.
Some whole life is sold on the idea you can have a guaranteed source of income for college or retirement or whatever other expensive fantasy you might have. However, other finance professionals see whole life as something of a rip-off. You don’t get to decide where the money is invested, and some advisers say you could earn a much better rate of return by investing money yourself rather than through an insurance policy.
What whole life does have going for it is that it’s permanent coverage. As long as you’re paying your premiums, the policy can never be canceled, even if you become terminally ill. Premiums are often fixed as well.
This is one advantage over term life. With term life, you may not be able to renew your policy if your health takes a turn for the worse, or, if the company does renew, premiums could rise dramatically.
Universal life can be confusing
Well, that might be a bit subjective to say, but universal life can come with all sorts of variables, making it much more difficult to sum up neatly.
Universal life is another form of permanent coverage. However, it comes in indexed and variable policies, and you may have single, fixed or flexible premiums.
Some universal life policies offer the opportunity to take premiums out of the available cash value, while others let individuals choose their own investment options.
However, universal life insurance often comes with risks. While whole life may have a guaranteed rate of return, some universal policies can lose value if the stock market tanks. What’s more, if your cash value dries up and you were planning to use that for premiums, you could lose your coverage.
Be sure to carefully review all the terms and provisions that come with the universal plan you’re considering. Bottom line: If you can’t explain it to your friends, you probably shouldn’t be buying it.
Burial insurance may be a waste of money
Finally, we come to burial insurance, often sold as guaranteed issue life insurance. These are the policies advertised on television with the happy seniors who are thrilled to buy life insurance for less than the cost of a daily cup of coffee.
Burial insurance certainly is cheap, my elderly mom buys hers for $10 a month, and it can’t be canceled as long as premiums are paid. In addition, as the commercials say, there are no health exams to complete and rates will never rise.
However, don’t let the cheap rates fool you. This life insurance doesn’t cost much because it doesn’t provide much in the way of coverage. For my mom’s $10 a month, she gets a $2,500 policy, possibly enough to buy a casket. In addition, if you die within a certain period, say 24 months, your beneficiary may only get your premiums back and nothing else.
Rather than paying for burial insurance, a better option for some may be to invest that money in mutual funds.
Workplace benefits offer life insurance for dummies
Still not sure where to start?
May I suggest your human resources office?
Many employers offer life insurance as part of their benefits. You may not get much, maybe a benefit amount equal to one year’s income, but it could be free to you.
Beyond the freebie coverage offered as part of compensation packages, some employers offer life insurance as a voluntary benefit. That means you might have to pay for it yourself, but you’ll get group rates, which typically result in dirt-cheap premiums. Plus, the premiums come right out of your paycheck, which makes buying coverage relatively painless.
At the same time, you have to be aware of the limitations of workplace benefits. If you lose your job, you could lose your coverage unless the policy has a portability clause. That would allow you to transfer from the group plan to an individual policy without needing to reapply. However, expect your rates to rise.
See, now that wasn’t so bad, was it?
Of course, we could write volumes more on the subject, but we’ll spare you for now. For the time being, mull it over and decide how best to protect your family if you don’t already have life insurance.