Six Questions to Ask About Life Insurance
30th May 2006
As part of my renewed interest in finance, I’ve had to look over my full lineup, including insurance. I’m starting with life insurance, because I have a young family that I’m supporting. If something should happen, they’ll need a sizeable amount to move ahead in their lives.
I’ve had the same insurance for years now, so I had to do some research on the subject, and here’s what I’ve found:
- How Much Coverage? - This is the age old question and what initially drew me to look at my life insurance. I’ve looked around to see what the experts say. On the radio, Clark Howard recommends 6 times your annual salary, and Dave Ramsey recommends 8 to 10 times your annual salary. Guess what? I have less than both of those amounts. I need up get more coverage, but what kind?
- Term vs. Whole Life? - Here’s something every expert I’ve heard of has agreed on. Term beats whole life almost every time. Whole life policies build up cash value as you go. Term only pays out if you pass on. So why would term be better? It costs more per dollar of payout, and the extra money you pay would grow faster if you just invested it yourself.
- Mortgage Insurance? - You can get life insurance that pays your mortgage should you pass on. I’ve heard recommendations against this. Why? It’s effectively insurance for the bank. If you pass on, your beneficiary can get the cash from a term plan, then decide if they want to pay off the house, or sell it. I’ve also heard that mortgage insurance doesn’t have the same bang for the buck.
- Work vs. Independent? - I’d always thought that getting my insurance through my work was the cheapest option. Turns out it might not be. Clark Howard reports that the rates might be higher through an employer.
- How Long? - If I do get term, how long should I get it for? Turns out that going for the long term is best. Ramsey’s theory is to get a 20 year term. Over those two decades (the plan goes) you will have built up enough savings to be “self insured”. Sounds like a good plan.
- What Company? - There’s plenty of companies out there looking to insure people, but who’s going to be around in 20 years, if, heaven forbid, I should actually need that policy? Clark Howard recommends looking for a company rated A+ or better (how do you get better than an A+?).
That’s what I’ve found so far, and I’ve resolved to get 20-year term life with a good company at at least 6 times my current salary. As with everything, your results may vary, and you’ll have to make your own decisions based on your situation, but I hope these tips help. May we all live long enough to never need the insurance we buy!
-or-
June 9th, 2006 at 11:58 am
As always you should make sure to take tax considerations into account. Some people might currently pay little taxes every year because their current annual income is low, but a taxable insurance payout can often trigger large taxes for the recipient(s). So if you have a policy worth 6 times your annual salary then this might give your loved ones 3-4 years’ worth of salary to get over your death and get their lives back in order.
Overall, very good tips.
June 18th, 2006 at 1:00 am
Okay, I have to say that I just came across your blog. I don’t mean to be mean, but come on. You really need to talk to a professonal about these issues, as relying on some generic radio or talk show host isn’t going to do you much good. You are a unique individual, your family is unique, and canned financial advice just won’t fit the bill.
Financial Reflections responds: While I get the facts as best I can, what appears on this website is only my opinion. It does not constitute financial advice. Indiviual situations can vary, and I have no problem with someone seeking out competent professional financial advice.
Most people get suckered into purchasing too much life insurance or they don’t pruchase enough. How you should (and almost all financial planners do) calcluate the life insurance needs amount is to determine what income you want to replace.
Say for example, you are married and your husband is the sole bread winner (I know it is gender biased, but I am just trying to provide an easy example). Your husband earns $100,000 per year. 10% of that will go to fund retirment. You are both in your mid-50’s. You don’t work. You expect your husband to retire at age 65. The question is how much life insurnace do you need?
For most folks the answer is $90,000 x 10 (which is the number of years that the husband is to continue to work, less taxes). This is oversimplified, but the answer is that “you need enough life insurance to cover any unexpected loss in income.”
Financial Reflections responds: Thanks for the information!
Sometimes term insurnace does the trick, other times whole life does the trick. In nany cases, this is a choice between varialbe universal life (a form of whole life) and term life. This depends on age, health, and income (and projected income).
Financial Reflections responds: Under what circumstances do you recommend universal? I’ve largely heard bad things about it, and not just from Dave Ramsey. It’s often billed as a high commission product for those who sell it.
If you are going to talk about what life insurance amount is needed, you should cover these very basic concepts. Otherwise you are misleading your readers. You are hurting them.
Financial Reflections responds: My readers are big kids and can make their own decisions. I’m learning this stuff as I go and writing what I learn. As I clearly point out in my disclaimer, “the information and opinions on this website are not a substitute for the advice of a qualified professional.” I’ll assume you are qualified, instead of someone pusing high-commision life insurance who’s posting comment spam. just to be sure, I removed the two links you dropped at the bottom of your post.
Gary