It’s an outright crime that they don’t teach concepts like life insurance in school.
Life insurance goes by lots of intentionally intimidating names — whole life, variable term life, and universal. It’s enough to make your head spin.
No matter what they call it, your best option depends on your risk tolerance, your goals, and your current life situation.
So until they hire me to teach Freshmen Finances, I’m here to walk you through each type of life insurance so you can protect your family against tragedy.
How much will it cost?
One of the first roadblocks to life insurance is the cost. Rest assured: a life insurance plan doesn’t have to be expensive!
Premiums for life insurance are determined by factors like your age, health, sex, family medical history, exercise habits, and driving record.
A young, healthy person will pay less premium for the same policy than someone 20 years older with a family history of bad health.
If you develop a serious health issue — like diabetes or cancer — you may not be eligible for a new policy at all. That’s why it’s so important to get life insurance early enough in life when you can lock in an affordable rate.
Price also varies between each different type of insurance. Let’s break those down.
Term life insurance: A low-cost option
If you want a plan that is simple and low-cost, term life insurance is the most cost effective option. That’s why it’s a good fit for most people.
Additionally, this type is usually best if you have an average income and want to avoid risk.
Term insurance is a great option for your family during the years when you most need it — such as when you are raising children or paying a mortgage or other loans.
Term life insurance is the cheapest option because it’s temporary. You buy a plan for a fixed length, usually between 5 and 30 years.
You make regular premium payments, often monthly or annually. If you die during the term, your designated loved ones will receive a guaranteed “death benefit” from the insurance company. The amount of that payout is declared when the policy begins.
However, if you live for the entirety of the term, the policy expires, and neither you nor your loved ones receive anything. Some plans give you an option to convert term insurance into something permanent before the expiration date.
Term insurance is also the least complicated in regards to restrictions and tax rules.
Whole life insurance: A long-term, tax-free investment
Whole life insurance is best if you have a high net worth and can afford the higher premiums. It’s also a good choice if you want a low-risk investment option that offers the opportunity to diversify your investment portfolio.
This makes whole life insurance a good option if you have dependents who need long-term care, such as children with severe disabilities.
Whole life insurance lasts your entire life and does not expire — as long as you keep up with the premiums, which remain at a fixed price for the entire life of the policy.
The death benefit does not change either. That’s why whole life insurance is the simplest and most straight-forward form of permanent life insurance.
The payments into the plan add up over time — and earn tax-free interest. Part of your premium is spent maintaining the cost of the policy, but the rest goes towards the growing cash value.
When enough time has passed, you can tap into the cash value, borrowing or withdrawing money from your policy while you are still alive.
Because this kind of policy never expires during your lifetime, the cash value can be invested in endowments or estate plans. Those funds have a more lasting effect, which is good if you have dependents who will need long-term support.
The downsides include the high cost and potential complexity regarding fees, interest, taxes and other rules.
Universal life insurance: More flexibility, more risk
If you want permanent life insurance with flexibility that adapts to your life circumstances, universal life insurance could be for you.
Universal life insurance builds cash value that continues to grow based on market interest rates. It also offers a death benefit.
However, the trade off for affordability and flexibility over time is higher risk.
With universal life insurance, you can adjust the premiums you pay — possibly even halt them — by using money from your accumulated cash value. Similarly, some plans let you adjust the death benefit, reducing it to lower your premium costs or vice versa.
Universal life insurance is usually cheaper than whole life insurance. However, the final death benefit and the growth of the cash value are not guaranteed.
Variable life insurance: High risk, high reward
If you are an aggressive investor who feels comfortable with higher risk, variable life insurance is for you. I’m talking to my day traders who love those high-risk, high-reward investments.
Variable life insurance offers the greatest control over your cash value investments, tying them to investment accounts. This could include mutual funds, bonds and other higher-yield investment options.
The potential for higher gains is greater. But so is your risk of loss.
Premiums are usually fixed, and there is a guaranteed death benefit that is separate from how the market performs.
Managing this policy requires a hands-on approach to stay current with the changing market. If you are considering this type of option, choose a fee-only financial planner. You don’t want an advisor who earns a commission by selling products that might not be in your best interest.
Burial insurance: A low-cost alternative
Burial insurance is a very small whole life policy that covers end-of-life expenses such as your funeral, burial, and final medical bills.
The guaranteed death benefit usually is between $5,000 and $25,000. Often, a medical exam is not required, unlike other types of life insurance.
This is a great choice for seniors and those with pre-existing health conditions. It’s also a good option for those who cannot afford another type of life insurance but don’t want to burden their loved ones with those end-of-life costs.
Mix and match
If you don’t perfectly fall into one category, I can help you mix and match the choices.
For instance, say you are young but not in the best of health. You could buy the smallest amount of permanent insurance – let’s say $25,000. Then you can take 15 times that amount in term insurance, in this case $375,000.
This way, you pay a low premium, protect some of your long-term insurability, and your dependents still benefit from a larger payout during their most vulnerable years.
An agent you trust
No matter what type of life insurance you choose, look for a financial advisor who takes the time to understand you and your individual needs. Avoid the planners whose goal is to pad their own wallets by selling as many policies as possible.
I would love to discuss your individual circumstances and find the best plan for your needs. Let’s work together to ensure your family is protected even after you’re gone.
