The following article was originally posted on Career Girl Network – http://careergirlnetwork.com
By Kelley Long – June 10, 2013
Few financial topics are as challenging to obtain unbiased information about as life insurance. Since this particular industry is a profit machine, the only people who really know much about the products are those who stand to collect a commission from them. Let’s settle some of those questions with a little straight talk about life insurance.
What is the purpose of life insurance?
If your family could survive without your income, you probably don’t need life insurance. What?!?! I’ll say it again: if you have no dependents relying on your income, you do not need life insurance. It’s often billed as a good investment, but when it comes down to it, life insurance is there to provide for your dependents in case you are no longer alive to do so.
But I might someday – isn’t it cheaper to buy it when I’m younger?
Of course, life insurance is cheaper when you’re younger. The premium amounts are based on an actuarial calculation that is designed for the insurance company to collect more from you over your lifetime than they’d have to pay out in benefits. Premiums are less when you’re younger because, in theory and in all hopes, you’ll be paying longer.
Waiting until you’re 70 to purchase a policy gives the insurance company less time to cover their risk, which is why it’s so expensive later in life. Don’t buy life insurance if you don’t need it yet just because it’s cheap. Put that money in a long-term savings account instead.
How much insurance do I need and for how long?
The face amount of your life insurance policy should be enough that your dependents could invest it and receive enough income from that investment to cover the expenses that you can no longer cover. Which means it’s a pretty big number. At a 4 percent withdrawal rate, you’d need a $2 million policy to generate about $80,000 worth of annual income.
As for how long, you’ll need it in place until your dependents no longer depend on you financially (or at least until they should be able to provide for themselves, for those with boomerang kids). Which means that you need what’s called a “term” policy that covers you for a set amount of time. Purchasing a 20 or 25-year level-term policy upon the birth of your first child should be enough and the premiums (which will stay the same due to the “level-term” type) should be affordable.
Most insurance salespeople will try to talk you into permanent life insurance, often called “whole life” or “universal life.” These policies never expire (as long as you keep paying the premium), so they will pay out no matter when you die. Most of the policies also build cash value, which can be taken advantage of when you no longer need the policy in place.
In theory, this type of insurance sounds great: it’s an investment, you have a guaranteed payout, your premiums go toward something instead of vanishing into thin air when your term is up, etc. Here’s the problem: it’s much more expensive. Which means that you’ll probably end up buying less than you need or you’ll eventually find the premiums to be too much. And in the unfortunate case where you might die young, your policy will not be able to serve its true purpose, which is to provide for your dependents when you’re no longer there to do so.
Permanent life insurance is a good idea for the “1 percent.” For the rest of us, a term policy will suffice, freeing up your cash to enjoy while you’re alive, still knowing your family will be financially ok if something happens. Remember, the true purpose of life insurance is to make sure your family is taken care of.
About the Author: Kelley Long
Kelley Long is a CPA and CFP® who believes that the true meaning of financial security means having choices in life. Formerly the head of her own practice, KCL Financial Coaching, Kelley parlayed the knowledge and experience gained from starting her own business into her dream job as the Director of Communications and Marketing for the Chicago-based CPA firm Shepard Schwartz & Harris. She’s also a volunteer and media ambassador for Feed the Pig and 360 Degrees of Financial Literacy and teaches BodyPump® in order to make sure she works out at least three times a week.
In Kelley’s perfect world, everyone would feel great talking about their money concerns, fears, questions and problems, because then everyone would see that we ALL have those concerns, fears, questions and problems. Kelley lives in downtown Chicago with her sweetheart Matthew and their cats Miles, Izzy and Groucho.