Big purchase decisions must be weighed carefully — you've got a lot of money on the line. Life insurance is one of those big purchase decisions that can help you or your family maintain financial stability.
- Your need
- Your purpose
- Coverage amount
- Term length
- Policy riders
- Age and health
- Purchase method
- Advice from your financial planner
As you're considering this purchase, you should evaluate how much you need a life insurance policy and if a term policy meets those needs.
Jake Tamarkin, Everyday Life CEO and cofounder says,
“Contrary to what some old school industry hacks may tell you, life insurance is not for everyone. However, it's a critical financial planning tool if you have a loved one who depends on your support to maintain their standard of living, particularly:
- Underage and special needs children
- Elders and other adults you care for
- Co-signers of some private student loans (check with your provider — most but not all will actually cancel your debt upon borrower's death or permanent disability)."
If you've got people who depend on you financially, you'll probably want a life insurance policy. Don't ignore other ways people depend on you.
"Consider both the financial and caregiving support you provide your loved ones. If you were gone tomorrow, would they have the resources they need to replace that support?" advises Tamarkin.
Don't forget that you can buy a life insurance policy on someone you depend on. For example, if you cosigned loans for someone and wouldn't be able to pay them back if they passed, you can buy a policy to insure their life with yourself as the beneficiary.
Term insurance is a great fit for this example because you likely only need coverage until the loans are paid off.
In addition to considering who depends on you, you'll also want to consider your financial obligations.
"You may need money for your mortgage, a college fund, or income for those left behind if you were to pass. Knowing how much you will need for a mortgage is easy, but a college fund will take some planning — and don’t forget to factor for inflation. Income needs can be calculated by finding what it takes to run your household, multiplied by the number of years you want to cover," says John Hill, president of Gateway Retirement.
As you're evaluating your life insurance need, you should also consider funeral costs and final expenses. These are quite expensive, with the most recent medians being reported as $7,360 for burials and $6,260 for cremations from the National Funeral Directors Association.
The only drawback to using term life insurance for this purpose is that it will only provide a death benefit for a certain period. Once the term finishes, you won't have coverage. In these cases, a permanent or final expense policy may be better options. Though, most final expense policies are available to people nearing seniorhood.
Once you know what your life insurance needs actually are, you'll be able to tell if a term life policy is the best fit for you.
Once you understand your life insurance needs, you'll have a clear purpose for buying life insurance.
“When you’re trying to decide between a term and permanent policy, ask yourself: Are my financial obligations temporary? Think: A mortgage, student loans and college tuition. If your responsibilities have an end date, term life insurance is your best bet — and as a bonus, it’s the cheapest and most straightforward policy," advises Katia Iervasi, insurance writer for Finder.com.
Knowing why you're buying life insurance gives you more direction through the buying process.
How much coverage you buy really depends on your needs and purpose. Nick Kolbenschlag, Crown Wealth Group managing partner, identifies good questions to think through as you decide the amount of coverage you need:
- How much debt do I currently have?
- What goals for my family would need to be funded if I passed (ex: kid’s college education, spouse retirement)?
- What monthly income would my family need to maintain their current lifestyle?
- How many years would they need to maintain that before using their retirement assets?
- What amount would I like to pass to the next generation?
Once you've considered these questions, you'll want to do some calculations:
"Multiply the monthly income need by 12 months and then by the number of years needed, add to it your debt balance, the goal funding needs and the legacy amount to get to the death benefit (face value) needed at this point in time. We then determine the number of years we need the coverage in place (term)," says Kolbenschlag.
Life insurance is an important purchase, so you need to make sure that you're buying the right amount.
"Getting this question right is critical and too many agents and buyers don't put enough effort into getting this right. The work is worth it, because this is the biggest driver of both the ultimate cost of your coverage as well as the peace of mind that you are fully protecting your family," says Tamarkin.
It may be easier to buy a single policy for the largest amount your family would need. If your family needs less, it's not like they wouldn't appreciate having more. However, doing so can restrict your monthly budget.
"For example, imagine you are buying life insurance to support your newborn child until they graduate from college. That's perhaps 22 years of your after-tax income you need covered today. But in 10 years, you will only need 12 years of your income covered. You can save 30–60 percent of your cost by stacking a couple of smaller policies that step down over time, rather than buying one big policy that leaves you overinsured and overpaying down the road," advises Tamarkin.
Another advantage of planning this way is that if your financial circumstances change, and you can't afford all of your life insurance policies, it's easier to drop one policy while still maintaining some coverage for your family than it would be if you lost the only life insurance policy you had.
However, if your needs increased over time, you'd have to buy an additional policy. Buying life insurance can be a hassle because of the underwriting process, but it's doable. You'll also have more flexibility with your monthly budget if you only have the coverage you need, not more than you'd need.
You'll need to decide how long you want to have a life insurance policy in place. Knowing why you're insuring yourself or someone else can help you determine the length of coverage you need.
"Always ask how long you will want or need coverage. Keep in mind that if you need coverage beyond the level term period, (i.e.15, 20, 30-year term) you may have been better off not purchasing term but rather permanent insurance," advises Raquel Murphy, Vice President of Individual Life Insurance with HUB International Northeast.
Keep in mind that your needs may change overtime, which can affect how long you need a policy. If you're buying the policy to protect your family, how long will that protection matter?
For example, if you just need the additional protection while your partner finishes school because they'll be able to support themselves well afterwards, you may just want a policy that covers those years.
Of course, you can always buy a longer term than you think you'd need to play it safe, too.
Life insurers often offer riders with their policies. These riders offer additional coverage or help protect your policy. A few common examples include:
- Disability waiver of premium — If the policyholder becomes disabled, they can maintain the policy without paying more premiums.
- Accidental death rider — If the insured dies in an accident, the beneficiaries will receive an additional sum as part of the death benefit.
- Accelerated death benefit — If the insured has a terminal illness or chronic illness that meets the terms of the policy, a portion of the death benefit can be received before the insured passes. An accelerated death benefit is a kind of living benefit that can be added to some insurance policies.
Here are a few specific to term insurance:
- Term conversion — You can convert the term policy into a permanent one without going through a new underwriting process. Watch out for the timing and deadlines for doing so.
- Return of premium — Once the policy term is over and a claim wasn't needed, the policyholder can be refunded their premiums for the whole policy.
- Renewable term — You can renew your policy at a new premium rate when your initial policy's term ends. Keep in mind that the premium costs will generally be higher when you renew.
Some insurers include these features with their policies, other insurers offer them as options. Adding riders to your policy will affect your monthly premium costs for a policy. However, if these riders are important to you, it can be worth paying an increased premium.
If you're buying a term policy because that's what you can afford right now even though you'd prefer to have a permanent life policy, choosing a policy with term conversion can help you maintain your coverage permanently in the future.
It's also advantageous in case new health issues arise.
"If you're healthy, a new term policy might be less expensive, but converting an existing term should be considered by anyone with health complications. Underwriting for the new policy is based on your original underwriting, not what you would currently qualify for," says Zachary Paschke, insurance agent and Term Life Guidance founder.
It's also helpful if you're buying term insurance at an older age:
"Before you buy a new term policy, see if you can convert your existing policy into a GUL (Guaranteed Universal Life) policy. These policies work much like a term policy. Instead of selecting a term (number of years) you select the age you want to coverage until. These policies are often available until age 80–121 depending on the company. I've saved clients huge amounts of money converting policies into GUL policies. One client came to me looking for a 20-year term policy in his late fifties He converted an existing policy and got more coverage until age 121 for less money," says Paschke.
If your policy has a term conversion feature, make sure you understand what the terms of the conversion are. Checking will help ensure that you don't miss the deadline to convert your policy into more permanent coverage.
"Check your conversion terms in your policy well before your policy runs out! Terms vary by carrier. If you're buying a policy now that will expire around your sixties be looking for a policy with top notch conversion terms. This is rarely something people ask agents about, but could save a ton in the future if you need it. It's an insurance policy for your insurance policy," recommends Paschke.
Of course, the bottom line will be what you can afford to pay in monthly premiums. If you are unable to make premium payments, you'll lose your life insurance policy and will need to buy a new one later in order to have coverage.
"What can I afford? In this question, don’t push too hard. You want to be comfortable with the cost," says Hill.
The good news is that you'll likely be able to afford more coverage with a term life policy than with a permanent one. Because the coverage is limited to a set amount of time, term policy premiums are often much less expensive than permanent insurance premiums.
Age and health
As you consider what you can afford right now, you'll also want to think about how your situation may change over time and affect future life insurance choices.
"Every insurance policy is bought based on your assumptions. If you get a 10–20-year term policy, you are assuming you will be able to afford another policy financially and health-wise at the end of the term. Life insurance is based on your age and health to qualify. The older you are, the more a policy will cost," says Hill.
If you develop health conditions, you may also see increased premiums or even be denied coverage.
If your policy has a renewable term rider, that can be advantageous. However, there are limits that can make this unfeasible.
Underwriting is how insurance companies determine whether or not they will insure you and at what cost. Many factors are considered during underwriting. Even when you buy term life insurance, the kind of policy you buy will affect how thorough the underwriting process is.
"Fully underwritten insurance is much, much cheaper but may require a medical exam depending on your situation and the carrier's risk appetite. If a provider promises in their marketing material that no medical exam will be required, you can be sure they are charging you more for the incremental risk they are taking, and the extra cost can be huge," says Tamarkin.
If you'd rather have a simpler underwriting process or no underwriting at all, you can opt for guaranteed issue policies. Just know that you'll pay for that convenience with higher premiums.
"People must understand that if they outlive those 20 years, they're likely to have an annual renewable term rider automatically which means the cost will increase from year 21 on up until they can't afford it anymore. The price at year 21 will equal to whatever age they're at.
As an example, a client with one of the companies I write for at 30 years old, non smoker at standard health would pay $22 per month for $250,000 for 20 years. At age 50, the price would jump to $80 per month. Still doable but after another 20 years, if they reapplied and got that price, it would be impossible to get due to the price for a 70 year old," says Justin Ehrhardt, TheBeardedFinancialPro.com.
Weigh future health developments, increasing age, and your future financial position as you determine the length of your policy and what riders you'd like to have as you decide what kind of underwriting you prefer.
When you're buying term life insurance, you can work directly with an insurer, work with an independent agency, or even apply and buy it online in one sitting. We'll review each option briefly here. For a more detailed analysis with insight from insurance experts, read "What's the Best Way to Buy Life Insurance?: What You Need to Know About Buying from an Insurer, Agency, or Online Retailer."
Buying directly from an insurer will help you establish a point of contact there in case you ever need to update your policy if you move or want to change your beneficiaries. You will, however, be limited to the policies and underwriting guidelines offered by that insurer. Generally speaking, underwriting guidelines are very similar across companies. However, some companies will underwrite medical conditions like diabetes more favorably than others.
Working with an independent agent or agency is advantageous because they represent multiple insurers, which means you can compare your options across companies to find the most favorable policy that meets your needs. While some agencies have a local focus, others offer their services broadly and connect with clients online. A few examples include Quotacy and Policygenius.
Keep in mind that agents do not charge their clients because they earn commission from the insurers they represent for the policies they sell. Even though independent agents are less biased than the insurer representatives, make sure you work with an agent that you trust to avoid being pushed into a policy that may not be the best fit for you.
It will usually take a little bit of time to be approved and issued a life insurance policy if you work with an agency or insurer, especially if your policy is fully underwritten.
If you'd like to have a policy in place quickly and don't have any underlying health concerns, you can view quotes, apply, and buy a term policy online. A few examples of these companies are Bestow and Fabric.
The only downside is that you may end up paying higher premiums compared to fully underwritten policies.
If you're buying life insurance online, keep in mind that many of these companies are newer and have not stood the test of time compared to other insurers. Find out if another reputable insurer offers the policies or if the insurance policies are insured. You don't want to buy a policy only to have the insurer be unable to pay a claim to your beneficiaries.
Advice from your financial planner
Before you buy a term life insurance policy, it's worth sitting down with a financial planner to discuss all of your options and the best way to move forward. Depending on your goals and situation, a permanent life insurance policy may make sense.
"Are there better choices for your money? You could get a permanent policy and have your money work for you. The term policy does not have cash value like a whole life policy does," says Hill.
Maybe you want to leave an inheritance for your family through a permanent life insurance policy.
"Do you prefer to leave a fixed amount or a potentially larger investment? When choosing a policy, it is important to consider which of these options you'd like to leave for your heirs. While a policy that is investing for you will most likely pay off a higher amount, this isn't always the case. If you happen to die earlier than anticipated, a fixed amount is more likely to pay higher. This is a question to ask yourself when you consider your long term health prospects,” says Ty Stewart, Simple Life Insurance CEO and President.
Permanent life policies are much bigger commitments than term life policies. Permanent policies usually have much higher premiums and offer lifetime coverage as long as you make your premium payments. You should weigh a decision to buy whole life insurance even more carefully than buying term life insurance.
If you're considering a whole life insurance policy, see our article "9 Things to Consider When Buying Whole Life Insurance."
However, if you can already tell that a term life insurance policy is what will best meet your needs, start exploring top life insurance companies and read customer reviews on Best Company.