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Life Insurance
Why
should I buy life insurance?
Many financial experts consider
life insurance to be the cornerstone of sound financial planning. It can be an important tool in the following situations:
1. Replace income
for dependents
If
people depend on your income, life insurance can replace that income for them if you die. The most commonly recognized case
of this is parents with young children. However, it can also apply to couples in which the survivor would be financially stricken
by the income lost through the death of a partner, and to dependent adults, such as parents, siblings or adult children who
continue to rely on you financially. Insurance to replace your income can be especially useful if the government- or employer-sponsored
benefits of your surviving spouse or domestic partner will be reduced after your death.
2. Pay final expenses
Life insurance can pay your funeral and burial costs, probate
and other estate administration costs, debts and medical expenses not covered by health insurance.
3. Create an inheritance
for your heirs
Even if you have no other assets to pass to your heirs,
you can create an inheritance by buying a life insurance policy and naming them as beneficiaries.
4. Pay federal “death” taxes and state “death”
taxes
Life insurance benefits can pay estate taxes so that
your heirs will not have to liquidate other assets or take a smaller inheritance. Changes in the federal “death”
tax rules between now and January 1, 2011 will likely lessen the impact of this tax on some people, but some states are offsetting
those federal decreases with increases in their state-level “death” taxes.
5. Make significant charitable contributions
By making a charity the beneficiary of your life insurance, you can make a much larger contribution
than if you donated the cash equivalent of the policy’s premiums.
6.
Create a source of savings
Some types of life insurance create a cash value that, if
not paid out as a death benefit, can be borrowed or withdrawn on the owner’s request. Since most people make paying
their life insurance policy premiums a high priority, buying a cash-value type policy can create a kind of “forced”
savings plan. Furthermore, the interest credited is tax deferred (and tax exempt if the money is paid as a death claim).
What are a few, different, life insurance policies?
Term life insurance - written for a specified period,
that requires the policyholder to pay only for the cost of protection against death; that is, no cash value is built up as
in whole life insurance. Every time the policy is renewed, the premium is higher, since the insured is older and therefore
statistically more likely to die. Term insurance is far cheaper than whole life, giving policyholders the alternative of using
the savings to invest on their own. Universal
Life Insurance - under which (1) premiums are flexible, not fixed; (2) protection is adjustable,
not fixed; and (3) insurance company expenses and other charges are specifically disclosed to a purchaser. This policy is
referred to as unbundled life insurance because its three basic elements (investment earnings, pure cost of protection, and
company expenses) are separately identified both in the policy and in an annual report to the policy owner. After the first
premium, additional premiums can be paid at any time. (There usually are limits on the dollar amount of each additional payment.)
A specified percentage expense charge is deducted from each premium before the balance is credited to the cash value, along
with interest. The pure cost of protection is subtracted from the cash value monthly. As selected by the insured, the death
benefit can be a specified amount plus the cash value or the specified amount that includes the cash value. After payment
of the minimal initial premium required, there are no contractually scheduled premium payments (provided the cash value account
balance is sufficient to pay the pure cost of protection each month and any other expenses and charges. Expenses and charges
may take the form of a flat dollar amount for the first policy year, a sales charge for each premium received, and a monthly
expense charge for each policy year). An annual report is provided the policy owner that shows the status of the policy (death
benefit option selected, specified amount of insurance in force, cash value, surrender value, and the transactions made each
month under the policy during the year-premiums received, expenses charged, guaranteed and excess interest credited to the
cash value account, pure cost of insurance deducted, and cash value balance).
Whole life insurance - form of life insurance policy that offers protection
in case the insured dies and also builds up cash value. The policy stays in force for the lifetime of the insured, unless
the policy is canceled or lapses. The policyholder usually pays a level premium for whole life, which does not rise as the
person grows older (as in the case of term insurance). The earnings on the cash value in the policy accumulate tax-deferred,
and can be borrowed against in the form of a policy loan. The death benefit is reduced by the amount of the loan, plus interest,
if the loan is not repaid. Traditionally, life insurance companies invest insurance premiums conservatively in bonds, stocks,
and real estate in order to generate increases in cash value for policyholders. Policyholders have no input into the investment
decision-making process in a whole life insurance policy. Other forms of cash value policies, such as universal life insurance
and variable life insurance give policyholders more options, such as stock, bond, and money market accounts, to choose from
in investing their premiums. Whole life insurance is also known as ordinary life, permanent life, or straight life insurance. Universal
variable life insurance - policy combining features of universal life insurance and variable life insurance
in that excess interest credited to the cash value account depends on investment results of separate accounts (equities, bonds,
real estate, etc.). The policyowner selects the accounts into which the premium payments are to be made. However, since this
is an equity product, filing with the Securities and Exchange Commission (SEC), an annual prospectus, an audit of separate
accounts, and agent registration with the National Association of Securities Dealers (NASD) are required. This policy can
be considered a replacement for universal life insurance when interest rates of U.S. Treasury issues and other money market
instruments are low. Contrast with universal life insurance.
Variable life insurance - innovation in life insurance that
allows policyholders to invest the cash value of the policy in stock, bond, or money market portfolios. Investors can elect
to move from one portfolio to another or rely on the company's professional money managers to make such decisions for them.
As in whole life insurance, the annual premium is fixed, but part of it is earmarked for the investment portfolio. The policyholder
bears the risk of securities investments, meaning that cash values and death benefits will rise if the underlying investments
do well and fall if the investments drop in value. Some insurance companies guarantee a minimum death benefit for an extra
premium. When portfolio investments rise substantially, policyholders can use a portion of the increased cash value to buy
additional insurance coverage. Policyholders can borrow against the accumulated cash value or cash in the policy. As in an
Individual Retirement Arrangement, earnings from variable life policies are tax deferred until distributed. Income is then
taxed only to the extent it exceeds the total premiums paid into the policy. Death benefits are not taxed as individual income
but as taxable estate income, which carries an exclusion of $2 million, rising to $3.5 million in 2009. Variable life insurance is different from universal life insurance. Universal life allows policyholders to increase
or decrease premiums and change the death benefit. It also accrues interest at market-related rates on premiums over and above
insurance charges and expenses. Jumping Juvenile Policy
(Juvenile Estate Builder) - life insurance coverage on a child in which the initial face amount of the life insurance policy
increases when the child reaches the age of majority, with no corresponding increase in premium. The Death Benefit may begin
$5000, and at age 13, jump to $10,000, and again at age 18, jump to $15,000.
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