Life Insurance FAQ
What is life insurance?
Life insurance is a contract between a life insurance company and an insured person. It typically protects those who are financially dependant on the insured. The agreement, known as a policy, provides details and stipulations about who should be provided cash payment as compensation in the event of the insured's death.
Do I need life insurance if I don't have any dependents?
There are many benefits to securing a life insurance policy. Beyond ensuring that those left behind in the event of your death do not incur any unexpected expenses such as your funeral costs or outstanding debt, life insurance can assist you with estate planning, taxes, and even preparing for supplemental income during retirement.
How much life insurance do I need?
Life insurance needs vary from person to person and may change over time. When determining your personal life insurance needs, there are several factors that should be taken into consideration, such as taxes (estate and inheritance), bereavement (a monetary cushion for the family's immediate lifestyle until the spouse and children have a chance to readjust their life without the insured), supplemental Income, and retirement.
What is a beneficiary?
A beneficiary is the person(s) or entity selected by the policyholder to whom benefits are paid in the event of the insured's death. The insured can assign multiple beneficiaries and has the power to determine how the proceeds will be divided. The insured has the right to change the beneficiary(ies) at any time.
Should I buy term life or permanent life insurance?
Term life insurance is usually for people with short-term needs (approximately 20 years). On the other hand, permanent life insurance is for long-term needs or for life. For example, a person may consider term life insurance while they are supporting a young family. Others may choose permanent life insurance when preparing for retirement. In many cases, people purchase both types of policies to ensure they are covered in all cases.
What is the difference between level term life insurance and yearly renewable term life insurance?
If you need life insurance for longer than a few years, level term life insurance is a more cost effective plan. While the premiums of a yearly renewable term life insurance policy are initially lower, they become larger with every year and soon become much more expensive than the level term life insurance.
What will I be asked to do when applying for life insurance?
When you decide you want to purchase life insurance, you will be required to submit an application, disclose your full medical history, and undergo a medical examination scheduled and paid for by the insurance company.
How is a premium determined?
Premiums are determined by the underwriter on the basis of your risk classification. Your risk classification is determined by a culmination of factors such as personal and family medical history, financial situation, recreational activities and vocation.
Should my stay-at-home spouse get life insurance?
When we think of life insurance, we tend to think about coverage on the person who pays the bills. However, the cost of a stay-at-home spouse does translate into real dollars. Should something happen to them, provisions would need to be made for home maintenance and childcare - both of which could definitely cause some financial hardship.
Are there taxes associated with a settlement?
If they paid in the form of a lump sum, the proceeds collected from a life insurance death benefit are usually exempt from income taxation. However, if the settlement is paid using another settlement option, then the interest earned on the principal death benefit can be taxed. Not to mention, the proceeds from a death benefit can be subject to estate and inheritance taxes.
How much life insurance should I own?
The usual amount equals to 6 to 8 times your annual earnings. However, there are other things to consider, among which income sources other than salary/earnings, your spouse's earning capacity if married, the number of people who are financially dependent on you, the amount of death benefits payable from Social Security and from an employer-sponsored life insurance plan, whether any special life insurance needs exist (e.g., mortgage repayment, education fund, estate planning need), etc. You should consult an insurance adviser for a precise calculation.
What should I choose – term insurance or cash value life insurance?
Term life insurance pays out in the event of death. On the other hand, cash value, which is more costly, has a cash amount you can withdraw before death. When making your decision, first ask yourself how much life insurance you should buy. Then look at the financial aspect and ask what type of policy you should buy. The amount of life insurance you need may be so large that the only way you can afford it is by buying term insurance, which carries a lower premium than cash value policies. If you can afford the desired amount of life insurance under either type of policy, you can consider factors such as your income tax bracket, whether the need for life insurance is short-term or long-term (20 years or longer is long-term), and the rate of return on alternative investments. If you view life insurance as an investment, you should study rates of returns. If it's protection, then your purchase is a matter of what you can afford and want to spend.
How does mortgage protection term insurance differ from other types of term life insurance?
The face amount under mortgage protection term insurance decreases over time, consistent with the projected annual decreases in the outstanding balance of a mortgage loan. Mortgage protection policies generally cover a range of mortgage repayment periods, e.g., 15, 20, 25 or 30 years. Although the death benefit decreases, the premium is usually level in amount. Further, the premium payment period often is shorter than the maximum period of insurance coverage. For example, a 20-year mortgage protection policy might require premiums to be paid over the first 17 years.
Can I use an existing life insurance policy to provide for the repayment of an outstanding mortgage loan?
Yes. Lenders don't usually require that you buy a new mortgage protection term insurance policy. An existing policy, either term or cash-value life insurance, can be used for many purposes, including paying off an outstanding mortgage loan balance in the event of your death.
What are the tax issues with life insurance cash values, dividends, and death benefits?
The "interest build-up" portion of the annual increase in the policy's cash value is not taxed. Dividends generally are considered to be a "return of premium" and are not taxable. Although life insurance death proceeds will not typically be subject to income taxation, they may be subject to federal estate taxation. If you own part or all of the policy when you die, those can be included in your gross estate for federal estate tax purposes. State inheritance taxes and federal gift taxes may also apply to life insurance policies/proceeds under specific circumstances. You should contact your tax adviser regarding questions about possible income, estate and gift tax consequences surrounding any life insurance you own or are contemplating buying.
What should I choose –universal life insurance or traditional whole life insurance?
Both traditional whole life and universal life products are examples of cash value life insurance but there are several important differences between them. The first one is product transparency. In universal life policies, it is relatively easy to see what the internal operations of the policy are, to examine the relationships among various policy elements (premiums, cash values, interest credits, mortality charges, and expenses) and how they interact with each other. Also, unlike whole life policies, universal life policy returns were freed from long-term, fixed-rate contracts and replaced with policies the returns of which were tied to short-term interest rates and periodically adjusted. After the initial payment, universal life permits you to pay premiums anytime, in virtually any amount (subject to certain minimums and maximums). You can also reduce or increase the amount of the death benefit more easily than with the traditional whole life policy.
What is variable life insurance?
Variable Life Insurance provides permanent benefits to the beneficiary in the event that the insured dies. Like Whole Life Insurance, these policies accumulate a cash value that can be used by the policyholder on a tax-deferred basis. The value potential, however, is greater because the policyholder can decide how to invest the accumulated value of the policy by choosing from a list of stocks, bonds, and money market funds provided by the insurance company. This freedom to control your investment portfolio makes it the most expensive type of cash value insurance. On the other hand, many of the benefits of variable life insurance are wholly dependant on your ability to invest successfully, and you should be absolutely certain that you understand all implications before purchasing this type of policy.