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Life Insurance Basics

A brief overview of life insurance

Life insurance helps secure your family's financial future after the death of you or your spouse. It also helps ensure that your estate will be allocated to the beneficiaries you have chosen. Whether you need life insurance depends on your individual financial circumstances. Social Security and some retirement plans available through employment cover burial costs and may provide a continuing income for dependents after a retiree's death. Some consumers are able to use the accelerated death benefit rider available in some life insurance policies to cover nursing home costs, but this will usually not provide the same amount of protection as long-term care insurance.

When purchasing life insurance, you should ask yourself several questions to help lay out your life insurance needs:

  • What financial responsibilities will your family immediately inherit - such as a mortgage or car loan?
  • What long-term goals will your family still have - such as your spouse's retirement or your children's education?
  • How much of the family income do you provide?
  • Who else besides your family depends on you financially?
  • How will your family pay for your final expenses and repay debts after your death?

Where can I buy a life insurance policy?

Individual life insurance can be purchased directly from an insurance company, through the mail or from an insurance agent. Insurance may also be offered over the Internet, but you will usually have to sign a paper application as well. Group life insurance may be available through your job or through a group to which you belong.

Most life insurance agents and brokers are honest; they sincerely want to help you meet your insurance needs. However, many consumer complaints are from people who had "complete faith in my agent," or "never doubted my broker because he was referred to me by a member of my family". A good agent or broker will work hard to make sure you really understand what you are buying, and will not be impatient when you ask to "see it in writing".

An independent financial planner or accountant can help you clarify your financial needs and review insurance proposals you are considering. A professional who does not work for the insurance company that wants to sell you insurance can provide an unbiased opinion on what is available.

Group policies, available through employers, are often cheaper than individual ones. You usually don't have to take a medical exam, nor do you have to answer health questions to qualify. In some group insurance, for example insurance available through your work, you may have to show that you have good health if you apply for the insurance later than 60 or 90 days after you were hired. Group insurance also may be available through professional, civic or religious associations.

Group life insurance may be offered at a single rate per person, or there may be only a few categories, such as age and gender. This is particularly true if the insurance is Term Life Insurance.

Remember: Make sure you understand the policy before you buy it. But, you will also have at least ten days after the policy is delivered to you to return the policy. This is called a free look period. If you do this within ten days, the company will return all of the premiums you have paid.

Term Life versus Cash Value

If you decide that you need coverage, you should then determine whether you need Term Life insurance or a Cash Value policy. It is important to know which type of policy you own, and how the benefits are paid if something happens to you or your spouse. Term Life Insurance usually gives you the most insurance for the least amount of money. Also, you may save money by buying a policy with low administrative fees. These "low-load" policies are sold primarily by a handful of insurers through direct mail or toll-free telephone numbers. Low-load policies also may be sold by financial planners licensed as insurance counselors who charge a service fee rather than a commission. Since the initial fees are low, low-load policies also cut your risk of losing money if you surrender your policy early.

Term Life Insurance Cash Value Policies
Term Life covers you for a term of years - as short as one year or as long as 30 years. Term policies generally have lower premiums in the early years, but do not build up a cash value that you can access. Cash Value policies come in the form of Whole Life, Universal Life or Variable Life insurance. Each of these products usually offers coverage as long as you live. An important difference between these products and Term Life insurance is that once you have paid your premiums for a number of years, the policy will have a cash value attached to it.

Beneficiaries

One of the most important decisions to make regarding life insurance is to whom to leave your benefits.

There are two types of beneficiaries for your life insurance policy. Primary beneficiaries receive a portion or the whole policy benefit if they outlive you. Contingent beneficiaries - also referred to as secondary beneficiaries - receive proceeds if a primary beneficiary dies before you.

You can name your spouse, children, grandchildren, relatives, friends, charities, businesses, trusts or your estate as your beneficiary. Naming individuals rather than an estate allows those individuals to receive the proceeds immediately and, generally, without taxation. Your will does not affect the distribution of your life insurance proceeds unless the sum goes to your estate to be divided according to the will. Check with your insurance agent, tax advisor or family lawyer if you have questions about how the life insurance benefit will be paid following your death. Here are some tips for naming beneficiaries:

Spouse Children Minor Children
You should use the individual's legal name, as in "John Wayne Johnson," rather than "husband." In case of a second marriage, "husband" could be interpreted either as the husband when you bought the policy or the current husband. When reviewing your policy, think about who will be in the best position to make financial and other important family decisions upon your death. You should qualify a specific class of individuals, such as "my children," by the use of either "per stirpes" (according to the family tree or branch) or "per capita" (per head). A designation of "my children per stirpes" means that if your two sons have two children each, and your oldest son dies before you do, his children will each receive his share of your benefits. A designation of "my children per capita" means that the living son, in the case above, would receive the full amount and your oldest son's family would receive none of the benefit. Most insurance companies will not pay life insurance proceeds to minors. If any of your children are minors, one of your options is to designate a trust as the beneficiary, with an individual or institution to use the funds for the welfare of your children. Trusts can be set up by your family attorney. Another option is to designate two individuals whom you trust as beneficiaries, who will make joint decisions about the care and welfare of your children.

 

Reviewing Your Life Insurance Policy

As your life situation changes through the years, so do your insurance needs.

A regular review of your life insurance coverage is important. When reviewing your policy, make sure the benefit covers your current needs. Changes, such as a birth, divorce, remarriage or even a new mortgage or job, are indicators that you might need to increase your benefits or coverage. 

You should also review your beneficiaries every few years. If you are the owner of your life insurance policy, in most cases you can change beneficiaries at any time by completing a formal, written notification to your insurance company. During a regular review of your life insurance policy, take into consideration changes in your relationships and family - such as births, adoptions, marriages, remarriages, divorces and deaths - when updating your beneficiaries.

Alternatively, your life changes might allow you to lower your life insurance coverage and premiums. The mortgage might be paid, you might have retired or your children might have completed college. At this stage of life, your life insurance company might be able to offer "conversion privileges" from your current term life insurance policy to a new whole life insurance policy. You might also be able to expend your death benefits so they can be used while you are still living. Ask your insurance agent or company about these options.

To begin your review, read your policy carefully. Look for answers to these questions:

  • Do premiums or benefits vary from year to year?
  • How much do the benefits build up in the policy?
  • What part of the premiums or benefits is not guaranteed?
  • What is the effect of interest on money paid and received at different times on the policy?
  • In what situations and through what procedures can cash values be accessed?
  • Can the policy be converted into another form of insurance or annuity?

Changing Your Policy

After reviewing your current policy, you might decide that you want a totally new life insurance product. If you already have a life insurance policy, do not cancel it until you have received a new one. You then have a minimum period to review your new policy and decide if it is what you want. Keep in mind that you may not need to cancel your current policy in order to get the coverage or benefits you want. Talk to your insurance agent or insurance company to see if they can make changes to your current policy

What Happens if I Miss a Premium Payment?

During the grace period, the 30-day period after the date your premium is due, you can pay your premium with no interest charged. If you die during the grace period, your beneficiaries would receive the death benefit of the policy minus the premium owed.

If you do not pay the premium within the grace period, your policy will lapse. That means that you have ended your relationship with that insurer and, if you were to die, your beneficiaries would not get any death benefits. Most companies will allow you to reinstate a lapsed policy for up to three years. To reinstate a lapsed policy, you would have to pay all overdue premiums with interest, plus reinstate or repay any loans you have taken against the policy. You might also be required to fill out a new health questionnaire or have a medical exam.

Can a Company Refuse to Pay a Claim in Case of Suicide or if I Do Not Tell the Truth on the Application or in the Medical Exam?

In the first two years after you buy a policy, the company can refuse to pay if the cause of death is suicide, or if you have made a material misrepresentation in the application. A " material misrepresentation" happens if you do not tell the truth about a situation or medical condition which would have caused the company to deny you insurance if they had known the truth. If you understate your age to obtain a more favorable premium, the insurance company will reduce the death benefit to be equal to what your premiums would have purchased at the correct age.

After the policy has been in force for two years, the company cannot contest the claim as long as you have paid the premiums. This is called incontestability. If you change companies or policies, you may be required to go through another two year period in which the company could deny a claim because of suicide or a material misrepresentation in the application.

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