When it comes to financial planning, life insurance is an important risk management tool. There are many considerations when determining how much life insurance you need and what type to buy. As you get older, your need for insurance may change, so it is important to review your plan periodically and make adjustments as your needs change.
Why You Need Life Insurance
While there are many uses for life insurance, we believe you should primarily use it to insure against the risk of premature death. If you should die early, you want to make sure that your family does not suffer financially. As you get older and accumulate wealth, your need for life insurance diminishes, and at some point, you may not need any. Many insurance salespeople recommend that you use life insurance as an investment vehicle, but the administrative and policy costs usually make it a very expensive and low-yielding investment. We think you should buy the least expensive insurance and invest your money in low-cost mutual funds or exchange-traded funds.
What to Consider
When evaluating your need for life insurance, it is important to plan as if something happened to you today. How much money would your family need to provide for your spouse and any minor children? What other assets do you have that could provide income? Does your spouse work, or could they earn income after your death? What kind of lump-sum needs do you want to cover, like college funding or paying off a mortgage? How much income does your family need and for how long? All these considerations will determine how much insurance you need.
You then want to decide what kind of insurance to buy. Do you want coverage for a specific period, like 20 years, or do you want lifetime coverage? Most people buy life insurance for the death benefit, but some may want insurance with living benefits, like cash value accumulation. These decisions will help you select the right type of insurance.
Your current health is also an important factor when buying life insurance. Do you have any health issues that may affect your ability to get coverage? People who smoke or participate in risky activities like piloting an airplane, sky diving, or scuba diving can expect to pay more for coverage.
Living and Death Benefits
Life insurance can have both living and death benefits, and they are exactly what they sound like. Living benefits are those the insurance policy offers while you are alive, and death benefits are those that are paid out once you have died. Which of these is important to you will determine the type of life insurance to buy and the cost.
Living Benefits
Certain life insurance policies offer living benefits to the insured. Part of the premiums you pay accumulates in the policy as cash value. The cash value in life insurance grows tax-deferred and is taxable when withdrawn if the accumulated cash exceeds the premiums paid. You can use the cash value for several purposes, including paying policy premiums, providing additional income in retirement, or paying for long-term care expenses. The problem is the return on your investment is very low because of high internal expenses, and we believe it is better to invest in lower-cost investment vehicles.
Death Benefits
Death benefits are the main reason that people buy life insurance. These benefits can provide for dependents in a number of ways, including maintaining their standard of living; covering college expenses; paying off mortgages, loans, and estate taxes; and providing a monetary inheritance. Additionally, these benefits can be used to make charitable gifts or provide for your business. One advantage of life insurance is the death benefits are tax-free to the beneficiary.
Term and Cash Value Insurance
The two main types of life insurance policies are term and cash value insurance. The primary differences between the two are the length of coverage time and the availability of living benefits. Term insurance has a limited term and no living benefits, while cash value insurance can last your lifetime and offers cash accumulation. Within each of these two main types of insurance, there are multiple, more specific options.
Term Insurance
Term life insurance includes death benefit coverage for a limited amount of time. It is also much less expensive compared to cash value insurance. There is no cash accumulation, so it does not offer any living benefits. The two main types of term insurance are level premium and annual renewable term.
Level premium is the most common type of term insurance. The premiums and death benefits remain the same for the entire term of the policy. This is best when you are young and need the most coverage for the lowest cost.
Annual renewable has a level death benefit, but the premiums increase every year. This coverage can start with lower premiums but get too expensive as you get older.
Cash Value Insurance
Cash value life insurance offers long-term coverage for those who want permanent life insurance with cash accumulation. There are four types of cash value insurance: whole life, universal life, variable life, and variable universal life.
Whole life has level premiums and a level death benefit. The cash value in a whole life policy is invested by the insurance company. This is the most expensive type of life insurance and offers the lowest returns.
Universal life offers some additional factors, such as flexible premiums and increasing death benefits. Additionally, cash from your account is used to pay for various expenses associated with your insurance.
Variable life has level premiums like whole life insurance, but you get to choose how your cash value is invested.
Variable universal life is a combination of the previous two types. It offers flexible premiums and death benefits, with a choice of investments for your cash.
Trinity Wealth Management
Life insurance is an important risk management tool for you and your family. Choosing the type and amount of insurance can be confusing, so it is important to consider your financial planning goals and objectives. If you need help evaluating how insurance fits into your financial plan, contact Trinity Wealth Management today. Our fiduciary advisors always put your needs first.
The commentary on this website reflects the personal opinions, viewpoints and analyses of the Trinity Wealth Management, LLC employees providing such comments, and should not be regarded as a description of advisory services provided by Trinity Wealth Management, LLC or performance returns of any Trinity Wealth Management, LLC Investments client. The views reflected in the commentary are subject to change at any time without notice. Nothing on this website constitutes investment advice, performance data or any recommendation that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. Trinity Wealth Management, LLC manages its clients’ accounts using a variety of investment techniques and strategies, which are not necessarily discussed in the commentary. Investments in securities involve the risk of loss. Past performance is no guarantee of future results.
