You’ve probably heard that you need life insurance. You may have even experienced the joy of an online, phone, or in-person sales experience. But what exactly is life insurance and why do you need it?
Basic policies: an understanding
These policies are a contract between you as the company issuing the policy. Under a policy, the company agrees to pay a certain amount to your personal beneficiary, whom you choose, in the event of your death. In exchange, you agree to routinely send them premium payments. Having the right amount can result in greater peace of mind, knowing that the beneficiaries you choose will be taken care of financially after your death.
Common uses
One of the most common reasons people buy a policy is to replace their income in the event of their death. Simply put, when a person dies and paychecks end, the family is often left with limited resources. Getting cash from a policy can be essential to supporting family immediately after your death and for years to come. These policies are also used to pay off debts that you may leave behind, such as mortgages and credit cards.
Adequate life insurance allows your other assets to remain intact for the family, which can be a great help. Many people also purchase these policies to cover final expenses and some even use them as a discounted method of paying estate taxes. One of the advantages is that with a very small initial premium and in one fell swoop you can create a very large estate for your heirs.
Calculating your need
The amount you need will depend on several factors, including whether you are married, the size of your family, the nature of your financial obligations, and where you are in your career. It will also depend on the financial goals you would like to be taken care of.
For example, a younger person may not have as much need for more substantial payments than someone who is older and has more responsibilities. However, when that same young person takes on more responsibilities, such as a family or a business, he or she may need a larger amount.
There are many online tools available on the Internet to help determine appropriate coverage amounts. However, often the best source may be a financial professional, who can take the time to learn about your personal circumstances.
Here are the questions you should ask:
1. What are my immediate needs for financial expenses such as funeral expenses, final medical expenses, debt payment and the like?
2. What percentage of my salary do I want to insure my family and for what period of time?
3. How much money do I want to leave for special situations such as my children’s education, donations to charities, or an inheritance for my loved ones?
Keep in mind that your needs will change over time, so you will need to continually reevaluate your need for coverage.
If estimates are made, a good rule of thumb for a breadwinner has always been about six times annual income. As with all general rules, one size does not fit all. It is generally best to be more detailed and take the time to determine the exact amount needed with the help of a financial professional.
Another consideration: how much can you pay? Term rates have dropped significantly in recent years and insurance for a healthy person has never been more affordable.
Just as there are many makes and models of automobiles, there are many types of policies available. Broadly speaking, they fall into two categories that we’ll discuss below, but the bottom line is that most people can afford the amount they need, depending on the policy they select.
Types of policies
The two basic types are term life and permanent or cash value.
The term provides protection for a specific period of time, such as 10, 20, or 30 years. If you die during that coverage period, your beneficiary receives the policy’s death benefit. If you live to the end of the term, policies generally terminate unless there is a renewal provision for a new term, at a new price.
Be very careful; When policies are about to expire, they do so or, in some cases, can renew them at a radically higher premium. You should anticipate when a policy will expire.
Permanent policies provide protection throughout your life as long as you pay the premium and keep the policy in force.
Basically, these policies build a reserve in the early years to be able to fund the death benefit in later years. If the policyholder discontinues the policy, this reserve, known as the cash value, is returned to the policyholder subject to any applicable surrender or withdrawal charges. The cash reserve can be substantial and have compelling tax advantages if used for future income. But withdrawal fees can be significant, so buyer beware.
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