This is a guest post from Chris Huntley, president of Huntley Wealth & Insurance Services.
Making life insurance part of your monthly budget is one of the best things you can do for your family’s financial future.
Because it’s such an important part of your financial plan, it’s essential to understand the basics so you can avoid getting duped into the wrong policy.
After you read this guide, you’ll have a better understanding of life insurance in general, how much you’ll need and which kind to buy.
What is Life Insurance?
In short, a life insurance policy is a contract between the buyer and the insurance company. The buyer pays a premium to the insurance company. In exchange, the company pays a death benefit to the buyer’s designated beneficiaries if he or she passes away.
Simple enough, right? If only!
There are many different types of life insurance and they can get complex. We’ll get into those, which one you should choose and how much it costs. But first…
Why You Need It
When you budget each month, the general goal is to avoid overspending. And if you’re young and healthy, you might see life insurance as an unnecessary expense. You’re not alone in thinking that.
According to LIMRA, 20% of U.S. households with children under 18 have no life insurance coverage.
…Almost two-thirds of those families admit they’d have immediate financial problems if the primary wage-earner died.
If you’re young and/or healthy, the odds of you dying are slim. That’s the good news. The bad news is that if you let that fact get in the way of protecting your family, it’s like walking a tightrope without a safety net.
Here’s more good news: life insurance is cheapest when you’re young and healthy.
The Different Types of Life Insurance
The life insurance industry has made things complicated with a number of different products. But here are the main three you need to know about and how they work:
- You pick a term for your policy (e.g. 10, 20, 30 or even 40 years) and your premiums stay the same during that time.
- If you pass away during the term of the policy, the insurance company pays out the benefit.
- If not, the policy typically moves to an “annually renewable” structure, with your premiums increasing each year. If you cancel, you get nothing in return.
- The policy is for life and your premiums typically stay the same the whole time.
- Part of your premium goes to paying for the coverage and the other part goes into a cash value account that grows at 2.6% per year on average.
- You can borrow against the cash value, but must pay it back with interest.
- This kind of insurance is easily 10x more expensive than term.
- Like whole life, universal life is a form of permanent insurance, so you’re covered for life.
- It allows flexibility with premiums. You can even use your cash value to cover your premiums if you’re in a financial bind.
- The insurance company may increase your premiums if your cash value account performs poorly, or you could lose coverage.
- This kind of insurance is also fairly expensive.
For most people reading this guide, term life insurance is the best option. It’s the cheapest option and most term policies allow you to convert your policy to a permanent policy. So if you end up with health issues that keep your from re-qualifying when your term is up, you have that option.
How Much You Need
Some financial experts try to simplify this calculation, focusing on rules of thumb like “8 to 10 times your income.”
…But since it’s your family you’re protecting, there are no hard-and-fast rules here.
How much life insurance you need really depends on your individual situation and budget. A few things to consider in this calculation:
- How much time you have left before retirement – Most people get life insurance coverage to replace lost income. The closer you are to retirement, the less income you have to replace.
- Spouse’s income potential – Is your spouse currently working? If so, what’s his or her income? If not, what’s his or her income potential?
- Debt – Getting rid of your debt is another common purpose for life insurance. Tally up what you want paid off and include that in your calculation.
- Savings and investments – The more you have saved up, the less insurance coverage you need.
Communicate with your spouse during this process. You may have unique needs that also need to be included in the calculation.
How Much it Costs
As I mentioned earlier, life insurance is cheaper when you’re young and healthy.
For example, a healthy 30-year old woman needing $250,000 of coverage for 20 years would be looking at a premium of approximately $12 per month. Increase that coverage to $500,000 and the premium would be closer to $18 per month.
If you’re 40 years old, the monthly premium for those coverage amounts would be approximately $16 and $26, respectively.
To get the best rates for your policy, I recommend comparing quotes from multiple companies to get their best offers.
How to Buy Life Insurance
You can easily get online quotes from multiple sources. When doing this, make sure the website you’re using gives you access to your quotes immediately. If not, you may get inundated with calls and emails from insurance agents.
Some websites, like Simply Insurance, give you quotes and help you figure out how much life insurance you need.
After you choose your amount and the term, you’ll need to choose between an exam and a no-exam policy..
If you’re in a hurry and you have no medical problems, the process for no-exam insurance can be much quicker. That said, it can also cost you 15% to 20% more.
There are plenty of insurance companies and agents that want your business, but not all of them have your best interests in mind. Some agents work for certain life insurance companies that sell policies only from that company.
…So you may be getting the best deal, but most likely not.
It’s best to work with a knowledgeable, independent insurance agent or website that can give you the best offers from multiple companies.
10 Savings Tips When Buying Life Insurance
Now that you have a basic understanding of how life insurance works, here are ten quick tips to help keep your insurance premiums low:
- Lose a few pounds – The difference between health ratings can be just a few pounds or a few blood pressure points. The price difference, on the other hand, is around 25%. Small, positive changes to your health can save you big.
- Buy more coverage – Stay with me here. Just like when you buy groceries in bulk, the more insurance you buy, the cheaper unit cost. As I mentioned above, a healthy 30-year-old woman can get $250,000 for $12, or she can double that for just $6 more.
- Take the medical exam – It may be tempting to speed up the process by going with no-exam insurance. Just remember, though, that you’re stuck with that higher premium for the life of the policy.
- Pay annually – Paying monthly premiums is usually more convenient, but most insurance companies give you a 8% to 9% discount if you pay annually. If you can’t do that, try to pay quarterly or semi-annually. The discount won’t be as big, but there will be one.
- Go through your work – This is a great option if you have medical issues because group policies have simpler underwriting. Just keep in mind that the policy terminates when you leave the job.
- Don’t put it off – For the most part, the best time to buy life insurance is now. The older you get, the more expensive it’ll be.
- Apply for a health class reconsideration – If you have an existing policy and your health has improved since you first got it, apply for a health reclassification. They may offer you a lower premium to get you to stay.
- Use the income option for your death benefit – Some insurance companies allow you to elect to have them pay out the death benefit over time rather than in a lump sum. In exchange, you’ll get a lower premium.
- Buy term and invest the difference – Instead of buying a permanent policy for the cash value account, get a much better return on your investment by buying term and investing the difference in cost in a low-cost index mutual fund.
- Use an experienced independent agent – Don’t just buy insurance from anyone. You want someone who knows their way around the business and can give you the most options.
As with all financial products, the more you know the more you save!
Chris Huntley is president of Huntley Wealth & Insurance Services in San Diego. He also owns eLifeTools, a site dedicated to online marketing for insurance agents. He can be reached on Twitter @mrchrishuntley.