You probably have heard about life insurance and may have been told by a parent, sibling or friend to purchase it. But what exactly is life insurance?
Like you, I didn’t really know much about it until I became a parent. I thought to myself, what would happen to this baby if I was not here? My husband and I realized we needed life insurance to protect our children’s future.
Life insurance deserves consideration by every household. Yet, there are many misconceptions regarding it. Realistically, life insurance is quite straightforward and applicable for many individuals. Providing you with peace of mind, your family will be financially protected in the event of your death. If there is anyone who financially relies on you, you need life insurance.
Life insurance explained
Life insurance is a sum of money that is paid out upon your death. The contract between yourself (policy holder) and the insurer guarantees payment will be made to your chosen beneficiaries ie: spouse or child as long as you pay your premiums.
The purpose of life insurance is to provide financial security and protection for your surviving family members.
The amount of coverage. or sum of money, your family would receive is based on the debts and needs in the present and future. To determine how much coverage your family would need, identify your current debts and possible future financial obligations.
Payment received from life insurance could pay for:
- Funeral expenses
- Mortgage payments
- Everyday household expenses including food and clothing
- College tuition
- Medical bills
How life insurance works
How does life insurance work? Life insurance is a contract between you and the life insurance company. You agree to pay the policy on a regular basis (monthly or yearly), and the insurer agrees to pay a death benefit (sum of money) to your beneficiaries in the event of your death.
The fees (premiums) are calculated from your insurer’s analysis of your potential life expectancy based on:
- Smoker / Non-smoker?
- Medical History or Health
- Lifestyle including any dangerous hobbies
- Family Health History including heart disease and cancer
- Driving Record
- Other risk factors
Cost of life insurance is based on your life expectancy calculation. The higher the risk the insurer has to pay out the claim, the higher the life insurance rates.
Many insurers take several weeks to approve a policy to verify all information collected. Recently, companies are are now offering instant term life insurance. If you are in good health and want life insurance quickly, consider Wealtha’s life insurance calculator to find the best rates in the country.
Types of life insurance
Many types of life insurance policies exist based on individual needs and circumstances. However, the two most popular policies are term and whole life insurance.
Term life insurance provides coverage for a set amount of time. Typical, term lengths are 10, 20 or 30 years. Once the term length is up, you have an option to renew or buy a new policy based on your current financial circumstances.
Term life insurance is the most affordable and simple type of life insurance. This type of life insurance is ideal for younger individuals who are in good health and have more debt currently than they would in the future.
- For example, you have just purchased a house with a large mortgage. Initially, you would require a large death benefit to cover your mortgage in the case of your death. However, because of your high debts, you may only be able to afford a lower premium rate – this would be realistic for a term life insurance policy. Later in life, you would not need a large sum of money as your mortgage will be significantly lower and your children will be financially independent.
Whole life insurance, a type of permanent life insurance, would cover you for your entire life. The premiums stay the same, and a cash value is associated with this type of life insurance. When you pay your premiums, a portion of that money is set aside as a nest egg. This cash value acts similar to a savings account. Depending on policies, you can cash in on this money.
This type of insurance is typically used for more complicated financial circumstances. Often, it is used in for estate tax. The main drawback of whole life insurance is the high premium costs.
Term life insurance works better for most because of the high premium cost of whole life insurance.