Life insurance can be a wise and prudent way to mitigate risk and it can be a terrible investment vehicle. Don’t get left with too little coverage or the wrong kind with this easy guide.
First let’s cover the basic forms of life insurance:
- Group – This is typically what you get through your employer or union. Often is a multiple of earnings where the employer covers some or all of the cost up to a certain multiple and you pay a premium for additional coverage.
- Term – This is a policy that covers a person for a set amount of time (the term) for a fixed (usually) premium amount. At the end of the term the premium is adjusted.
- Whole – A policy that remains in effect until the policy holder dies as long as the premiums are paid. There is typically some cash value that’s used as an investment after a period of time.
Why a person needs insurance is important as well. Typically life insurance is used to provide financially for people who depend on you when you die and cannot provide the income that those dependents were counting on. For example if you have a spouse and children and carry a mortgage you would want to have a policy that would pay off that mortgage. If you have nobody that depends on you financially then life insurance may not be something that you need.
Using life insurance to provide an inheritance to people who don’t depend on you financially is typically not a good use of life insurance.
As we age the need to cover financial dependents tends to go down and our need for life insurance goes down with it. If you have no debt, grown children and your spouse has income to pay for a comfortable lifestyle then little to no life insurance would make sense.
Looking at the benefits and costs of each type:
- Group – Easy to get (just click a button during open enrollment), often no medical exam, often subsidized so it costs less than other options.
- Term – A bit more paperwork than group, price is set for the term, often no medical exam but may require one depending on risk factors.
- Whole – Most expensive, covers for an unlimited period of time, has some cash value after enough payments are made.
However, there are downsides to each as well:
- Group – You will probably not work at the same place your entire life, costs can and do change year to year, benefits can change year to year.
- Term – You have to guess how long you need insurance for. After the term the price will go up if you still need coverage.
- Whole – You probably don’t need life insurance after a certain point but will feel the need to keep paying for it. Insurance is not a great investment vehicle. You will get better returns with a low cost market index fund or something similar.
So ask yourself if you need insurance, how much you need and for how long. That will help you determine what type of policy to get and for how long.
There are complex permutations of each of these categories and they are presented here only in their most basic form.
