Fundamentals of Life InsuranceFundamentals of Life Insurance

Life insurance is a common component of most everyone’s financial plan. It can serve many helpful purposes such as; replacing lost income in the event of your death, paying any debts you leave behind (such as mortgages, car loans or credit card debts), paying for your final expenses or estate taxes, and it even can create a tax-free estate for your heirs. But what types of policies are available to you? How much insurance do you need and how much can you afford? This article will answer these questions and others.

What Makes Up a Life Insurance Contact?

The contract is made up of 4 basic parts:

  1. Legal Provisions-This part sets out the conditions of the contract, as well as the rights and obligations of the parties involved (you and the insurance company).
  2. Application-Your initial application is part of the insurance contract. It outlines your personal information and health status.
  3. Policy Specifications-This outlines the amount that your beneficiaries will receive and the amount of premiums you must pay to keep your policy from lapsing.
  4. Riders and Options-These are additional provisions that you can pay more to have added on to your policy. These include such things as having your premium waived during times of disability, guaranteeing you the ability to purchase more insurance without another medical exam, and accidental death benefits.

Types of Life Insurance Policies

There are two basic kinds of policies, term life, and permanent life.

Term life covers you for only a specific period of time. You can purchase a plan that lasts anywhere from 1-30 years. If you die during the term your beneficiaries will receive the face amount of the policy, but if you die after the term has expired they will get nothing. You do have the options of automatic renewal, which means you can repurchase your policy at the end of the term for a new predetermined length of time.

Permanent life will cover you for your entire life. The premiums are higher than those for term life. But you will have a cash value in your policy that you can borrow from and if you decide to end your policy, you will receive the whole cash value. There are several different kinds of permanent life policies. Here is a quick overview of the different options you have:

  • Whole Life

    This is the most well-known type of permanent life. You will pay the same premium for your entire life (either monthly, quarterly, or annually). The death benefit and cash value are set when you buy the policy.

  • Universal Life

    If you have a universal life policy you can pay your premiums at any time in any amount (there are limitations on the amount) as long as your expenses and the cost of your insurance coverage are met. You can decrease the amount of insurance you have. Also, your cash value will grow at a declared interest rate that may vary over time.

  • Index Universal Life

    This is another form of universal life. The difference with this type of policy is that any excess interest is put into the cash value of the policy. The interest is tied to the performance of an equity index, like the S & P 500.

  • Variable Life

    With a variable life policy, you will pay a level premium for your entire life. But the death benefit and cash values of the policy fluctuate with the performance of your investments. These investments are known as subaccounts and you will have the option to choose which accounts you want your money to be invested in. This is a very risky form of life insurance.

  • Variable Universal Life

    These policies are a combination of universal and variable life. You can pay your premiums at any time and in any amount, like you can with a universal life policy (but remember you have to at least cover your expenses and the cost of coverage). You have the option to decrease the face value of your policy like universal life. Like in a variable life policy, your cash value will go up or down according to the performance of the subaccounts that you have investments in.

Who Can You Name as a Beneficiary?

Any person, corporation, or legal entity can be your beneficiary. You have two types of beneficiaries to name: primary and contingent. The primary beneficiary is the main person that you wish you money to go to when you pass. A contingent beneficiary is a person you name to inherit the money if your primary beneficiary has predeceased you.

You can name multiple beneficiaries in each category, allotting them each a specific percentage of the benefit. You also are able to change your beneficiaries at any times.

How Much Do You Need?

The size of insurance policy you will need depends on several factors. These include if you have a spouse, the size of your family, and the nature of your financial obligations, your career stage, and your financial goals.

It is also important to think about such questions as:

  • What immediate financial expenses would your family face after your death?
  • What is the amount of your salary you devote to expenses and future needs?
  • How long would your family need support if you died tomorrow?
  • How much money would you want to leave as an inheritance for your children or to fund their education?

All these factors play a part in determining how much coverage you will need.

How Much Can You Afford?

How much coverage you need and how much you can actually afford may be two very different things. Such factors as the type of policy you choose, your age, and your health all play a part in determining your expense.

A financial professional can help you to determine what type of policy will fit your budget and still work for your needs.

Where Can You Buy Life Insurance?

Some people will receive policies from their employers, other go to insurance agents or brokers. It is important that you find someone that can help you find the best policy that will fit your needs. Financial advisors can be helpful in aiding you to make your decision because they have an in-depth knowledge of how life insurance works and how it will interact with other aspects of your finances.

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