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General
Purposes of Life Insurance
How
much life insurance should an individual own?
How
much will it cost?
What
about life insurance for a spouse or children?
What's
the difference between term and cash value life insurance?
What
is mortgage protection term insurance?
Can
a life insurance policy provide payment for an outstanding
mortgage loan?
What
are the taxes on life insurance cash values, dividends, and
death benefits?
What
is participating whole life insurance?
Which
type of cash value life insurance policy is a "better buy"?
Is
credit life insurance a good buy?
General Purposes
of Life Insurance:
Life insurance is a unique asset which is a valuable addition
to your overall estate due to its potentially high yield and
tax-favored benefits. Life insurance can be used for any number
of reasons. Some of the most common uses are:
- Creating an estate where
time or other circumstances have kept the estate owner
from accumulating sufficient assets to care for his or
her loved ones. Life insurance can create an instant estate.
- Paying estate taxes
and other estate settlement costs. These costs can vary
from a low percentage of three to four percent to over
50% of the estate. Federal Estate Taxes are due nine months
after death.
- Funding a business transfer.
Business owners often agree to buy a deceased owner's
share from his or her estate after death. Life insurance
provides the ready cash to finance the transaction.
- Funding college for
children or grandchildren. Cash value increases, in a
policy on a minor's life or the parent's life, can be
used to accumulate funds for college.
- Paying off the home mortgage.
Many people would like to pass the family residence to
their spouse or children free of any mortgage. Often a
decreasing term policy is used, which decreases in face
amount as the mortgage balance is paid down.
- Protecting a business
from the loss of a key employee. Key employees are difficult
to attract and retain. Their untimely death may case a
severe financial strain on the business.
- Creating a retirement fund.
Current insurance products provide competitive returns
and are a prudent way of accumulating necessary funds
for retirement years.
- Replacing a charitable gift.
Charitable Remainder Trusts provide tax benefits and life
insurance can replace the value of the donated asset.
Policies can also be paid directly to a charity.
- Guaranteeing loans.
Personal or business loans can be paid off with insurance
proceeds.
- Equalizing inheritances.
When the family business passes to children who are active
in it, life insurance can give an equal amount to the
other children.
How much life insurance
should an individual own?
Rough "rules of thumb" suggest an amount of life insurance
equal to 6 to 8 times annual earnings. However, many factors
should be taken into account in determining a more precise
estimate of the amount of life insurance needed. Important
factors include income sources (and amounts) other than salary/earnings,
whether or not the individual is married and, if so, what
is the spouse's earning capacity, the number of individuals
who are financially dependent on the insured, the amount of
death benefits payable from Social Security and from an employer-sponsored
life insurance plan, whether any special life insurance needs
exist (e.g., mortgage repayment, education fund, estate planning
need), etc. It is recommended that a person's insurance advisor
be contacted for a precise calculation of how much life insurance
is needed.
How much will it cost?
The cost for life insurance varies widely depending on the
health and age of the person to be insured and the coverage
amount of the policy. Individuals are rated by their age,
health history and in some cases, by their careers. All other
things being equal, younger people will generally have lower
premiums that older people. The best way to find out how much
life insurance will cost is to get quotes from multiple carriers.
What about life
insurance for a spouse or children?
In certain circumstances, it may be advisable to purchase
life insurance on children; generally, however, such purchases
should not be made in lieu of purchasing appropriate amounts
of life insurance on the family breadwinner(s). It is of utmost
importance that the income earning capacity of the primary
breadwinner be fully protected, if possible, through the purchase
of the required amount of life insurance before contemplating
the purchase of life insurance on children or on a non-wage
earning spouse. In a dual-earning household, it is important
to protect the income earning capacity of both spouses. Life
insurance on a non-wage earning spouse is often recommended
for the purpose of paying for household services lost at this
individual's death.
What's the difference
between term and cash value life insurance?
Although a difficult question--one whose answer will vary
depending on circumstances--several principles should be followed
in addressing this issue. It must first be recognized that
in any life insurance purchasing decision, there are at least
two basic questions that must be answered:
- "How much life insurance should
I buy?"
- "What type of life insurance
policy should I buy? "
The question contained
in (a) involves an "insurance" decision and the question contained
in (b) requires a "financial" decision. The "insurance" question
should always be resolved first. For example, the amount of
life insurance that you need may be so large that the only
way in which this needed amount of insurance can be afforded
is through the purchase of term insurance with its lower premium.
If your ability (and willingness) to pay life insurance premiums
is such that you can afford the desired amount of life insurance
under either type of policy, it is then appropriate to consider
the "financial" decision--which type of policy to buy. Important
factors affecting the "financial" decision include your income
tax bracket, whether the need for life insurance is short-term
or long-term (e.g., 20 years or longer), and the rate of return
on alternative investments possessing similar risk.
What is mortgage
protection term insurance?
The face amount under mortgage protection term insurance decreases
over time, consistent with the projected annual decreases
in the outstanding balance of a mortgage loan. Mortgage protection
policies are generally available to cover a range of mortgage
repayment periods, e.g., 15, 20, 25 or 30 years. Although
the face amount decreases over time, the premium is usually
level in amount. Further, the premium payment period often
is shorter than the maximum period of insurance coverage--for
example, a 20-year mortgage protection policy might require
that level premiums be paid over the first 17 years.
Can a life insurance
policy provide payment for an outstanding mortgage loan?
Yes. An existing term or cash-value life insurance policy,
can be used for many purposes, including paying off an outstanding
mortgage loan balance in the event of the insured's death.
What are the
taxes on life insurance cash values, dividends and death benefits?
The "interest build-up" portion of the annual increase in
the policy's cash value is not taxed currently to the policy
owner. Dividends generally are considered to be a "return
of premium" and are also not taxable to the policy owner.
Although in the typical case, life insurance death proceeds
will not be subject to income taxation, these proceeds may
be subject to federal estate taxation. If the insured has
any elements of ownership in the policy at the time of his/her
death, the proceeds are includable in the insured's gross
estate for federal estate tax purposes. State inheritance
taxes and federal gift taxes may also apply to life insurance
policies/proceeds under specific circumstances. You should
contact your tax advisor regarding questions concerning the
possible income, estate and gift tax consequences surrounding
any life insurance that you currently own or are contemplating
purchasing.
What is participating
whole life insurance?
Participating (par) whole life insurance has been marketed
for many years in the U.S. The participating feature allows
for the payment of dividends to policy owners when actual
experience justifies such payment. Substantial amounts of
participating whole life insurance is still sold today, principally
by the large mutual's.
Which type of cash
value life insurance policy is a "better buy"?
There is no simple answer to this question. The best performing
product (from a financial perspective), whether universal
life, whole life or some other type of cash value life insurance,
will likely be the one offered by the insurer that enjoys
the best future experience as it relates to interest earnings,
actual expenses and mortality costs. Insurers earning the
highest investment income, and who also incur the lowest expenses
and the lowest mortality costs, are in the best position to
offer life insurance at the lowest cost. This is true whether
the cash value life insurance product being offered is universal
or whole life. Thus, it will be necessary for prospective
insurers and their advisors to carefully examine the financial
aspects of each product under consideration, irrespective
of what type the product is.
Is credit life insurance
a good buy?
Credit life insurance is frequently more expensive than traditional
term life insurance. Further, if you already own a sufficient
amount of life insurance to cover your financial needs, including
debt repayment, the purchase of credit life insurance is normally
not advisable due to its relatively high cost.
*NOTE:
Credit life insurance is frequently recommended in conjunction
with the taking out of an installment loan when purchasing
expensive appliances or a new car, or for debt consolidation.
