By Ryan Brown, partner at CR Myers & Associates in Southfield, MI
Life insurance has long been considered by many to be the greatest, most effective, and most economically efficient financial product ever created. Not only is that true, I believe it to be gospel.
Life insurance is the only product in the entire financial world that does exactly what you want it to do when you want it to do it, even after you’re not around to make sure it does. With the stroke of a pen, a person can provide his or her loved ones with what would otherwise take an entire lifetime for him or her to accumulate.
While it sounds morbid to talk about, the reality is that every single one of us is eventually going to die. The only question that remains after death is what will happen to the people we love. Life insurance provides a concrete answer to that worrisome question.
Whether you are single and just starting out in your career, or you are already retired and enjoying the back-nine of life, life insurance is one financial product everyone should own. Why? It guarantees you the peace of mind to know that your loved ones will be taken care of after you die, and it also guarantees that your loved ones will have financial peace of mind after you have died.
Unfortunately, a large portion of the American public has not been convinced of how great it is. In fact, four in ten Americans do not have any form of life insurance, and many of those who do have it actually lack the sufficient amount coverage they truly need. Sixty-five percent of Americans also believe it is too expensive when, interestingly enough, the average consumer’s estimate for the cost of life insurance is actually twice as high as its true price.
So how does one calculate how much life insurance one needs? Most financial professionals use what is called a Capital Needs Analysis to provide their clients with a good starting point of how much they should have, and it really just boils down to basic math. Numbers like any outstanding debt, your mortgage, how much money you’d like to leave your children for their educations, and perhaps an amount of money you’d like to provide your family to live off of while you are not there to provide for them are all added up, and voilà, you have a pretty good idea of how much you should have.
Many Americans also do not understand how life insurance works. In its simplest form, life insurance is just a plain old contract. You agree to give an insurance company money, referred to as a “premium,” and the insurance company then agrees to pay out a death benefit to your named beneficiaries when you die. It’s as easy as that.
When most people think of life insurance, they think of term life insurance. Term life insurance is exactly what it sounds like: A person pays a premium to an insurance company for a set term (one year, ten years, twenty years, thirty years, etc.), and if the person dies within the time-frame of that term, the insurance company will pay out a death benefit to the person’s named beneficiaries. Best of all, this death benefit is received income tax-free.
There is another form called permanent life insurance. Permanent life insurance comes in many different types (e.g., whole life, universal life, variable life, etc.), but its distinguishing characteristic is that is accumulates cash value, whereas term insurance does not. A consumer pays an insurance company a premium, and a portion of that premium pays for the cost of the death benefit and any fees associated with the policy. The remaining amount of the premium goes into an internal cash-value account which grows within the policy by either receiving a non-guaranteed dividend from the insurance company, being linked to an index such as the S&P 500, or by being invested in an outside investment. Besides the benefit of an income tax-free death benefit, a person would also want to buy this type of life insurance because all of the money that grows within the cash-value grows tax-deferred and can be distributed back to him income-tax free through policy loans. Millions of Americans use these this type of life insurance, for example, to supplement their retirement incomes by taking policy loans.
Bottom line: Americans should not be afraid to look into life insurance. Its benefits far outweigh its costs, and those costs are not nearly as expensive as the average American thinks.
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