Four Questions That Should be Asked Prior to Buying Life Insurance

Why it's prudent to protect yourself as well as your family against the unexpected.

For the foreseeable future, because you're working hard to earn your income, you wish your family to share in the fruits of your labor. Making preparations for your family's future though, involves more than simply investing appropriately so that you can accomplish a successful combination of stability and growth in order to meet your financial goals.

For many, this also involves investing in the correct amount of life insurance in the course of their working years.

Life insurance can of course aid in mitigating any potential financial impact that your loved ones would suffer in the event of your passing.

Any lost income in those circumstance can be replaced by the proceeds obtained from a life insurance policy.

Debts can be eliminated, college can be paid for, a business can be kept afloat, or other financial needs as well as goals can be addressed, while the family try to adjust to a new way of life.

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1) Life insurance – how does it work?

With the absence of your earning power in the event of your death, a life insurance policy will provide a payment which can help to protect the lifestyle of your family.

There are many individuals who have a variety of financial goals that they are trying to meet with the income earned from a job – putting children through education, paying off the mortgage, supporting an elderly parent, etc.

Life insurance can aid in supporting these types of goals.

And this is how it works:

Upon the purchase of a life insurance policy, what you are in fact doing is buying into a contract with a life insurance company that is issuing the insurance. The insurance company guarantees that upon your death, it will honor the agreement to pay a preset amount to those who are named as your beneficiaries within the contract.

The insurance company's guarantee is subject to their claims of paying ability. Typically, the proceeds are free from any income tax. What's more, your beneficiaries are paid directly by the insurance company, and as such, unlike with the probate process which governs a will whereby assets are passed down, there are no associated delays or expenses involved.

Nevertheless, depending your estate's size, the benefits provided through a life insurance policy might be subject to estate tax, in which case it is wise to consult with a tax or financial advisor with respect to your individual situation.

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2) What are the types of life insurance available?

Life insurance policies are placed into two general categories, namely term and permanent.

The term insurance policy will cover a specific period of time, for example 10 or perhaps 20 years. On the conclusion of that time period, normally you would cease paying premiums and the coverage also ceases to be valid.

A permanent insurance policy, on the other hand, covers you until the time of your death, irrespective of age, providing that the premium payments are kept up to date.

Permanent insurance usually will include an investment component in addition to the insurance policy, and due to this, it generally will carry a higher premium.

Permanent insurance is commonly utilized for estate planning purposes as well as wealth transfer, where term insurance is used as a method to replace a lost income due to an untimely death. In many cases, term insurance is more appropriate, and is often more affordable.

Term insurance in effect allows you to gain access to life insurance for much less cost than if you were to buy a similar amount of permanent insurance. In effect, you can compare this scenario to that of leasing a car versus actually buying one. Often you can avail of a more expensive car for the same amount of money through leasing as opposed to buying outright.

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3) When is it the correct time to invest in life insurance?

Many people can of course benefit from having a life insurance policy. When there are others who are also dependent on your income, then, in general, there's a need for life insurance. It is possible that you might have life insurance coverage through your employment.

Nevertheless, it's wise to consider investing in additional coverage on an independent basis since policies that are purchased out-with an employer's plan are in fact portable. This means that your insurance coverage will continue regardless that you either leave or lose your job.

Furthermore, an employer's coverage might not be enough to meet your financial requirements in caring for your family. It's wise to review your life insurance coverage needs in the event of a major life crisis or event.

Give some consideration to the following ‘potential' events and to the ways in which your family can be protected through life insurance:

  • Marriage. Marriage is plenty enough reason for you to wish to review your financial situation in entirety. This will include current debts as well as any other liabilities, and future income requirements.
  • Major home improvements or a new home purchase. In the event of your death, life insurance can cover home equity obligations or your mortgage.
  • New job. Any group coverage that you may have gained from a previous employer can be replaced with a term insurance policy. Further, with term insurance, you can increase your coverage in accordance and with respect to your new salary.
  • The birth or the adoption of a child. Protection can be afforded to your family's increased financial requirements through a life insurance policy. The policy will also help to cover any further debts, which might include college expenses for your children.

For those families that have children and where one spouse remains at home, it can be important that this spouse has life insurance in addition to the primary bread winner.

Consider the financial value of the stay-at-home parent from the point of view of the services that they provide. Should a premature death occur, other than it being a devastating loss, there would likely be a very large financial pressure upon your loved ones which can in effect then impact the working spouse's capacity to remain earning the same amount of income.

Term life insurance can cover expenses such as college tuition, estate and funeral expenses, as well as business ownership needs. A small business might consider investing in life insurance policies for important individuals such as the business owner and key employees in order to help prevent the likelihood of financial pressures should one or more of those key personnel die.

While you consider investing in life insurance, do keep in mind that usually there's a requirement to provide evidence of insurability.

What this means is that prior to an insurer issuing a policy, you will typically be required to undergo a form of medical screening, which is generally scheduled either at your place of work or within your place of residence. In general, if your overall health is good, it means the potential premium will be lower.

There are a number of factors which contribute to the price of insurance, for example, your health status and your age. Normal blood pressure and low cholesterol levels, in addition to an average body weight will in general equate to a lower life insurance policy cost.

Usually, it's both less expensive and easier to purchase life insurance when you are in your 20's and 30's as opposed to when you are in your 40's, 50's, or 60's. Health issues can of course arise later in life which can then make it difficult or costly to find a good life insurance policy.

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4) What is the amount of life insurance that you need?

There are a number of ways as to how to determine the amount of insurance coverage you require.

One basic way is to invest in coverage which equals between five and 10 times that of your annual salary, including bonuses etc. So, following along with this rule of thumb, if your annual income is $50,000, for example, you should opt to buy a policy with a value of between $250,000 and $500,000.

Other ways to determine insurance coverage are more definite, and they take into account certain aspects to do with your financial situation, such as any current liabilities you have, any capital you have accumulated, as well as specific costs you'd like your family to be covered for in future.

Many experts will tell you that the amount of insurance you require is related to the amount of income that would be needed in order to replace the lost income should there be a premature death.

Furthermore, when investing in term insurance, you do also need to determine for how long you'd wish to have the coverage. A benchmark figure that is commonly used can be gained from calculating the number of years it will take before you can afford to retire comfortably.

There are other scenarios that should be considered also, such as, if you do have children, the number of years still remaining until all of your children finish their college education. Term life insurance has a major benefit which is that, in all probability, you can affordably protect your assets with this type of insurance. It's highly advisable to avoid buying a policy where the premiums are difficult to easily afford in the future.

Financial experts will advise that you should invest in a smaller policy where you can comfortably afford the premiums than it is to buy a larger policy which lapses because you've been unable to meet the cost of the premium.

There will likely be greater financial responsibilities for loved ones as your life progresses. Buying a term insurance life policy is one effective way to provide the money that will inevitably be required in order to meet their expenses, as well as to maintain the standard of living they would wish.