Life insurance. You’ve probably heard you need it, but what is it? In simple terms, life insurance serves one purpose: to provide financial protection to your loved ones if you die.
Think of life insurance as a financial safety net for your dependents should the unthinkable happen. Your family can use these funds to cover funeral costs, college tuition, mortgage payments and other financial obligations.
There are two main types of life insurance: term life insurance and whole life insurance. Each has unique features—you have to decide which features matter most to you.
What Is Term Life Insurance?
There are a few key features of term life insurance:
- You get to choose the policy length, or “term,” which is usually a 10-, 20-, 30- or 50-year period. Shorter terms are also available in the market.
- Premiums tend to be lower than whole life and remain the same.
- It can be converted to whole life insurance.
- Your life insurance payout amount is guaranteed.
- Your beneficiaries will receive a payout only if you die within your policy’s set period.
It’s important to know that term life insurance has no cash value. Although your payout amount is guaranteed, your beneficiaries will receive that payout only if you die prematurely while the policy is in effect. In other words, your term life policy isn’t worth anything unless you were to die within that 20-, 30- or 50-year period.
What Is Whole Life Insurance?
Whole life insurance is a form of permanent insurance. There are several noteworthy features of whole life insurance:
- You get lifelong coverage, so long as premiums are paid.
- Premiums are higher but generally remain the same.
- Your life insurance payout amount is guaranteed.
Another significant feature of whole life insurance is that your policy accumulates cash value over time like a savings account. You can withdraw that money, borrow against it or end your policy and cash in on coverage. Some whole life insurance policies may even be eligible for dividends.
Although whole life insurance is designed to build cash value, it’s not a financial investment in the same ways as stock shares or mutual funds. It exists to provide protection and peace of mind for your loved ones if you’re not around to take care of them.
Comparing Term Life & Whole Life Insurance
So, how can you determine which is a better fit? If you’re trying to choose between term or whole life insurance, there are a few things to consider. On the one hand, term life insurance might be a better choice if you:
- Are young and healthy.
- Want temporary coverage to replace your income over a set number of years, say if you have young children or are paying off your home.
- Want to eventually convert your term life policy into a whole life policy; you just can’t afford the higher premium right now.
If you’re shopping for term life insurance, consider selecting a term that aligns with the years you’ll be paying the bills, like your 20-year mortgage. Coverage is there to protect your family should you die prematurely, so purchase an amount they would need if you were no longer able to provide for them.
Theoretically, your family won’t need life insurance by the time the term expires. Your children will be grown, your house will be paid off and you will have hopefully saved enough money to serve as a financial safety net, so you may not need to extend your coverage or convert your term life policy into a whole life policy.
On the other hand, whole life insurance may be a better fit if you:
- Have a lifelong financial dependent, such as a child with special needs.
- Have heirs who will owe estate taxes.
- Want to spend your retirement savings, but still leave an inheritance or allot funds for final expenses, such as funeral costs.
- Want to standardize inheritances. For example, whole life insurance can be used to compensate one child if you plan on leaving a business or other property to another.
If you’re married, have young children and a 20-year mortgage, your life insurance needs are going to be much different from someone who is in their 60s with substantial savings and children who are grown and live on their own. Both provide financial protection for your loved ones, but the “better” option depends on your circumstances.
How Much Life Insurance Do I Need?
To calculate your life insurance coverage amount, subtract your liquid assets from your long-term financial obligations. Long-term financial obligations include:
- Your annual salary times the number of years you want to replace your income, such as 20.
- Your mortgage balance.
- Other debts you have.
- Future financial obligations, such as your children’s college tuition and funeral expenses.
- The cost of childcare, if you are a stay-at-home parent.
Liquid assets include:
- Your savings.
- Your children’s college funds.
- Your current life insurance.
Financial experts recommend purchasing a little more coverage than you think you’ll need. Keep in mind that your income will increase over the years, as will your expenses. You can’t predict exactly how much they will increase, but adding in a little wiggle room will ensure that your family can maintain their standard of living.
When Should I Get Life Insurance?
If you’re considering buying life insurance, there are a few things to keep in mind, including your:
- Financial goals.
The best time to buy life insurance is when you’re young and healthy since life insurance companies weigh the risks of the person purchasing the policy, which can impact your eligibility and premium. Still, whether you’re fresh out of college or plan on retiring next year, you need life insurance, and now is as good a time as any to get it.
Talk to your ABC insurance agent about getting life insurance coverage to protect your family’s financial future. To learn more about which type of life insurance policy is best for you and get the best coverage for your needs, call 1-800-708-0123 or visit an ABC agent near you.
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