Last week I wrote a post about how much life insurance to take out in connection with a life insurance policy. However, there are nine things to consider when taking out a life insurance policy to make sure it is as beneficial as possible.
Again, just a quick chat on why this is important: I know, mortality isn’t fun to think about, but this is a crucial component to making sure our loved ones are financially okay if the worst happens. That means it is a critical component of our financial plan and our estate plan.
As I said in last week’s post, you’ll never regret having life insurance, but you’ll regret not having it if you need it or become uninsurable.
So, here are nine things to consider when taking out a life insurance policy:
- What your goals are
- What your liabilities are
- Taking out more insurance
- Combining multiple policies
- Minimizing costs with term insurance
- Who your beneficiaries are
- Finding a non-cancellable clause
- Finding a renewable-term clause
Let’s dive into each!
These first three are an extension of how much life insurance to take out.
When you’re considering the death benefit of your life insurance policy, your goals are essential. Think about what you want life insurance to cover. For instance:
- If you die and your spouse survives, do you want them to be able to live forever or for the next few years without having to make financial changes?
- Suppose your spouse and you pass away and leave small children. What do you want the assets to cover (education expenses, weddings, home down payments, certain expenses for your future grandchildren)?
These questions are personal. There are no right or wrong answers. However, your answers to these questions impact the amount of life insurance death benefit you need on your life insurance policy.
If you want to provide your children’s education and your grandchildren (all or some), then the death benefit needs to be higher. If you are of the mindset that you want to provide for your spouse forever without them having to make changes to their life, the death benefit needs to be higher. On the other hand, you may very well feel like you want your spouse to move on or be realistic and make a change. You may think it’s irrational to plan for what isn’t right in front of you. In these instances, your life insurance death benefit needs are lower.
Our two most massive liabilities are our home and Mark’s student loans. If something happens to Mark, his student loans go away, but I would still need to pay for our house. So, when taking out insurance, we are only focused on our home debt.
While it’s important to think about what liabilities you have, it’s also important to know if they are still required to be paid by the estate if a person dies.
If you have cosigners on loans that you have taken out, make sure you consider the other person’s ability to pay for the debt if you pass away. If you leave them no assets in your estate plan, they are fully responsible for the remaining debt.
If you have liabilities that still must be paid upon your death, you need to make sure your estate can pay them. The debts can be paid either through using assets or using life insurance proceeds. If you don’t have assets to cover the expenses, make sure the debt amount is included in your thought process regarding how much life insurance you need.
If you feel like the ranges you calculated from last week’s post are enough to cover the debts and your goals, then don’t increase your death benefit amount. On the other hand, if you feel like you don’t have enough coverage, increase the death benefit proceeds amount.
Taking Out More
Ok, final consideration as to how much life insurance you need.
Sometimes we use the saying, “less is more.” I think when it comes to life insurance, the saying “more is more” is appropriate — within reason. I’m not advocating taking out a billion-dollar policy here, people! But if you’re debating between $500,000 and $750,000 and you can easily afford the $750,000 death benefit option, I would encourage you to take out a policy with the higher proceed amount.
Here is why. We cannot see the future; we cannot know what our dependents may face. We cannot tell what the investment landscape will look like compared to inflation. We cannot know if our children will face issues we don’t want to think about. Be clear on your priorities with respect to how what you leave behind is used. Leaving them what feels like a little extra now may ensure that your priorities are met.
This would give your loved ones the best support to move forward if the worst were to happen. Remember, the purpose of life insurance is to provide our loved ones security and peace of mind in the event the worst happens.
No one says you can only have one life insurance policy.
The larger the policy you take out, the more health testing and review of your medical past the insurance company will do. They’re looking to assess the rating they will assign for your policy, which affects your premium rate. It also tips the insurance company to any exclusions they may assign to the policy.
Let me be clear; I am not advocating hiding anything from the insurance company. In fact, if you do, that’s called fraud. If they ask you a question about your health, you must answer truthfully.
However, knowing the difference of review they do at different coverage levels may impact your choice of how much insurance to take out through the company.
So, if you are working with an agent, know what the medical requirements will be for different death benefit levels.
Final word of caution on this point: If you’re taking out your tenth life insurance policy (or anywhere near this number), you’ve likely gone too far in complicating and diversifying your life insurance portfolio.
Laddering Policies with Term Insurance to Minimize Cost
Term insurance policies have an ending point, as described above, and as you get older in life, the premiums will become more expensive. According to the life insurance actuarial tables, the older you get, the more likely you are to pass away. The more likely you are to pass away, the more risk the insurance company is taking that they will have to pay out the death benefit on the policy.
A way to minimize life insurance premiums over your life span is to ladder term policies. This means you have little coverage, increase coverage over time, and then lower coverage after your insurance level is at its peak.
Remember, there is an inverse relationship between net worth and life insurance. The larger your net worth becomes, the lower the death benefit amount of life insurance needed. If you are practicing good financial habits, your net worth should increase over your life span.
Here is what laddering life insurance policies might look like:
|Age||Life Event||Term Life Policy|
|30||Married and Buy Home||Take out a 25-year term policy that would end when the home is close to being paid off.|
|33||Add a dependent to the family||Take out a 25-year term policy. This policy would lapse around when this dependent would likely be independent.|
|36||Add a dependent to the family||Take out a 25-year term policy. This policy would lapse around when this dependent would likely be independent.|
Estate planning can start when you open any financial instrument. When it comes to any financial account, it is critical to name beneficiaries. Concerning life insurance policies, this rule of thumb holds true.
Make sure to designate beneficiaries on the policy when you take it out. You can also update these at any time.
What is the point of taking out life insurance if the money doesn’t go where you want if the worst happens?
These final two things are clauses to consider with respect to how life insurance policies are written. There is specific language for each. While having these clauses in the policy may increase the cost slightly, it can be even more costly not to include them.
While in college, I did an internship with a life insurance company. I heard story after story about how having these clauses protected several people and how not having these clauses left others very vulnerable.
Make sure any insurance policy you take out has a non-cancellable clause. This means that the insurance company cannot change the terms of the contract at any point as long as you pay the premiums. This means they cannot cancel the policy, increase the premiums, or reduce the death benefit for any reason.
Renewable Term Clause
A renewable term is a clause in a term insurance policy that allows the policy owner to extend the coverage term for a set time without re-qualifying for new coverage. A renewable term is contingent on premium payments being up to date and a renewal premium being paid by the policy owner.
This is important because if you become ill or have a serious pre-existing condition, this will allow you to have coverage after your original term without having to do medical background checks. Remember, you cannot know your future. You hopefully feel well today, but being well next week, next year, or in fifteen years is not guaranteed.
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MPower Co is a mother-daughter owned and operated financial education company that incorporates positive psychology into our teachings. If you enjoyed reading this article or found it helpful, follow MPower Co on Facebook or Instagram. MPower Co posts current financial and positive psychology topics, and shares new blog posts like this one once released.