While it may be uncomfortable to think about, it’s important to consider what would happen to your loved ones if you were to unexpectedly pass away. Will they be left struggling to make up for your income, scrambling to pay for your end-of-life costs, or paying for remaining medical debts? Life insurance is a way to keep them financially protected.
Life insurance works similarly to any other kind of insurance. You choose a policy that has a certain amount of coverage (called the benefit) that is paid out when you die. You then make the required premium payments to the insurance company. Various factors including your age, health, and lifestyle impact how much your premium costs. Payments can be made monthly, quarterly, annually, and many options in between, depending on what you prefer and what the insurance company offers.
The life insurance benefit can be paid in a lump sum, as regular payments over a set period of time (called an annuity), or deposited in an interest-bearing retained asset account that your loved ones can withdraw from as needed.
A life insurance beneficiary is a person or entity that receives all or part of the payout from your policy when you die. Most often, people choose a spouse, child, friend, or family member as their beneficiary, but you can also leave money to a charity, trust, estate, or other legal entity (such as a business).
Under most policies, you can designate as many beneficiaries as you want, you just need to ensure that you account for 100% of the benefit. Laying everything out in your policy can help avoid arguments over how to divide the money after you pass. But it also leaves less room to accommodate for changes in circumstances, since you’ll need to submit any changes to your life insurance policyholder. And, if you designated someone as an “irrevocable” beneficiary, you need their permission before making any changes to what they will receive.
There are a few rules surrounding beneficiary designations. Some states require that a spouse receive at least part of a life insurance benefit. That means that even if you don’t name them as a beneficiary, they may still receive part of the money. You also cannot name a child under 18 as a beneficiary. If you do, a court-appointed custodian will oversee the money until they reach adulthood. To avoid this, you may choose to put the money for underage children into trusts or designate a trusted adult to divide the money.
Anyone or anything that you want to receive a payout as part of the claim is a primary beneficiary. If you choose to have only one beneficiary, it’s wise to designate contingent beneficiaries as well. This provides a safety net in the event of unexpected scenarios. If your primary beneficiary cannot claim the benefit (for example, they also pass away), a contingent beneficiary then receives the benefit. If you had no contingent beneficiaries, the money would likely go to your estate. It would then take longer for the benefit to become available and make it subject to taxes, which it usually wouldn’t be.
There are two types of life insurance: term and permanent. Term life insurance is what provides coverage for only a certain period of time (or term). That means your beneficiaries only receive the benefit payout if you die during that time. It’s common for term life insurance policies to last 10-30 years, though you may be able to specify coverage to what you would prefer. If you’re getting your life insurance through work, it’s likely a term policy.
The biggest benefit of term life insurance is that the premiums are usually much lower than permanent life insurance. The main drawback to term life insurance is, of course, the limit in coverage. You’ll need to get a new policy once the existing policy ends. Because older people are more expensive to insure than younger ones, insurance premiums increase as you age. So once your term ends, your premiums will go up no matter what.
Permanent life insurance (also called whole life insurance), as the name would imply, lasts for an entire lifetime. That means your beneficiaries receive the benefit no matter when you die, and you won’t ever have to shop for a new policy again. That assurance comes with a hefty price tag, as premiums for permanent life insurance are usually much more expensive than term life insurance. Buying permanent life insurance when you’re young may help you lock in a more affordable rate, though this is unlikely to outweigh the higher overall price of permanent life insurance.
Another type of permanent life insurance is what is called universal life insurance. A universal life policy offers a bit more flexibility than the average whole life insurance plan but doesn't alway come with a fixed interest rate. This often means participants have to pay premiums and fulfill other specific requirements of their policy to stay covered.
No matter what type of permanent life insurance policy you look into getting, most all of them come with the benefit of accumulating a cash value. This money grows the longer you have the policy and can be used to pay for premiums, taken out before you die (though it may subtract from the available death benefit), or borrowed as a loan. A loan from your life insurance cash value usually has a much lower interest rate than a credit card or personal loan.
Supplemental life insurance is what you'd get in addition to a primary policy. A supplemental life policy fills any gaps that may exist in your basic group life insurance plan and is generally employee-paid. This policy provides assistance with unexpected medical situations and also has cash benefits for anything from medical and household expenses to aid with pet and child care.
Navigating the world of life insurance can be complex, but understanding the various policies available will provide you with the knowledge you'll need to make the right choice for your circumstance. Whether you're considering term life, whole life, universal life insurance, supplementary, or any other plan, each policy offers unique benefits and considerations to suit different financial goals and family needs.
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