Do You Need Permanent Life Insurance? – Whether or not you need life insurance is aquestion that many people struggle to answer.It doesnt help that insurance agents areoften perceived as pushy sales people whostand to make larger commissions ifthey sell more expensive products. It is true that some insurance agents arecommission hungry but I think that it isalso common for people to dismiss good insuranceadvice due to the perceived conflict of interest. It is common for life insurance to be absolutelynecessary for a family to be financially secure,but it is important to choosethe right type of insurance.
In article, Imgoing to tell you about life insurance. If you have anyone, like a spouse, child, oreven dependent parent, relying on your abilityto generate income or provide services, youhave a need for life insurance. When you die,your ability to generate income stops immediately,but your familys expenses do not stop. Think about a family with $5,000 of monthlyexpenses, all covered by a single income. Tocontinue covering those expenses for 20 yearsafter the earners death the family would needto have about $900,000 to invest assuming a5% after-tax return and 2% inflation.
Do You Need Permanent Life Insurance?
That ismore cash than most people keep lying around,especially in the early stages of adult life.
Its not only the income earnerthat requires life insurance. Inthe example of a single income family,one spouse may be at home caring forchildren and managing the household. Thosefunctions have an implicit monetary valuewhich needs to be replaced on thedeath of the spouse providing them. In the early stages of adult life expenses tendto be high with things like mortgage payments,retirement savings, and child carecosts, while financial assets tendto be low.
With high expenses and a totalreliance on the ability to generate income,there is a substantial life insurance needfor most younger people with families. At retirement, human capitalis considered to be depleted,and you should be able to rely onyour financial assets like pensionsand investments to fund your lifestyle.Your ability to generate income is lesscritical at this stage as your family willprobably be fine financially if you die. So life insurance needs are typicallyhighest at the start of adult life,and decline over time until retirement when theyare typically zero for most people.
Based on thisdeclining need, it is extremely importantto choose the right kind of life insurance.
The two main types of life insurance are term lifeinsurance and permanent life insurance.Within each category there are quite afew variations in terms of how thepolicy is structured and paid for. Term insurance is the lowest cost type of lifeinsurance. Based on the typically declining needsfor life insurance, term insurance is probablythe most sensible choice for most people.
Read More: 9 Tips to Save Money on Home Insurance
With a term insurance policy you are lockingin your premium, or cost of insurance,for a fixed number of years.
At the endof that term, your premium will go up,and it will often go up a lot. Term insurancepolicies come in many term durations,but the most common are 10 and 20 year terms. Ideally you will purchase a policy witha term that approximately matches theduration of the insurance need.
For examplebuying coverage on your life until yourkids are expected to be independent,or until your mortgage is paid off. Permanent life insurance does not renew or expire.
It covers your life forever as long as you pay allof your premiums. In other words, it is insurancecoverage that is guaranteed to pay out eventually.Permanent life insurance comes in multiple forms.The simplest no-frills type of permanent insuranceis called Term 100. It is a lot like a terminsurance policy, except the premium is guaranteeduntil age 100.
Term 100 policies do not haveany cash value or built-in investment component. Whole life insurance similarly haspremiums payable until age 100,but the policy also builds up a cash value.You can borrow against the cash value or useit as collateral for a loan from a bank.You also get to keep the cash value if youcancel the policy.
In most policies, the cashvalue earns non-taxable interest over time.
Limited-pay whole-life insurance is similar towhole life, but the premiums are paid for shorternumber of years, and then the policy is guaranteeduntil death. A Pay 20 policy would be a wholelife policy with premiums payable for 20 years,and then the policy would be paid up forever. Participating whole life insurance receivesdividends from the insurance company. Thosedividends can be paid out in cash, usedto pay premiums, saved within the policy,or used to purchase additional paid upinsurance. Policy dividends are creditedto each policyholder at the discretionof the insurance company based on anumber of factors.
The whole process is alittle bit opaque which makes me uneasy,but insurance companies will often boast that theyhave never missed a participating policy dividend.
Read more : How to Determine Whether You Need the Extra Insurance
Universal life insurance is permanentinsurance with a built-in investmentcomponent. The Policy holder is able to choosewhat the money is invested in. This can be a goodthing or a bad thing depending on the investmentsavailable and the discipline of the policy owner. Many permanent life insurance policies have theoption of over funding, or adding extra cash tothe policy in excess of the cost of the premiums,up to a limit.
Overfunding a policy allows theextra cash to grow tax-free inside of the policy.While this may be interesting to some people,in general I would not say that permanentinsurance is a very good investment. It hashigh built in costs, including the costof insurance, and liquidity constraints. Permanent insurance is interesting in situationswhere there is a specific need at death,and liquidity concerns for the estate.
Forexample, a family cottage passing from adeceased parent to their children may resultin a substantial tax bill.
If there are noother liquid assets in the estate, and the childdoes not have liquid assets to pay the taxes,then the cottage may need to be sold. Permanentinsurance could be used to avoid this situation. For most people in most situations, term lifeinsurance is the simplest and most cost effectiveoption. For example the $900,000 policy that Imentioned at the beginning of this video wouldcost about $40 per month for a 30-year oldfemale. On the other hand, structuring thispolicy as a non-participating whole lifepolicy would cost around $400 per month.
Remember, not all insurance agents want to sellyou the most expensive product, but it is worthnoting that in this case, the insurance agentis looking at the difference between around a$500 commission for the term policy, and a$5,000 commission for the permanent policy. Have you purchased permanent life insuranceinstead of term? Tell me why in the comments.
