The Retirement Corporation of America

Insuring Your Life

THE LAST THING you want to do is leave your family financially strapped when you die. That's why you buy life insurance.
How much should you have? If you're married and have young children, a good rule of thumb is five times your annual net income, plus enough to pay off your mortgage and start a college fund. That may come to a mind-numbing figure. But remember, you probably already have some coverage where you work. And if you're young and have young children and you suddenly die, we're talking about providing for your family for many years.

That's why it's essential to buy life insurance from a company that's likely to be around for a long time. After you're gone, your policy may have to pay out for decades down the road. You want to be sure—as sure as you can be—that the company will remain financially strong.

So the first thing you should do before you think about buying a policy from any company is to check its safety rating. As you've already learned, you can probably do that at your local library by looking at its copy of A.M. Best's insurance ratings.

Rates and Projected Future Values

Don't be misled by all those ads on TV that have sports stars and other celebrities pushing policies. The rates quoted in these ads are for the healthiest of young adults. Your rate may be far higher, depending on your age, your medical condition, whether you smoke or you're in a high-risk profession and a whole host of other factors. If your health is very poor, some companies may not be willing to insure you at all or will at a price you can't possibly afford.

As for a policy's future value, every company's sales literature will include a chart that purports to show you how much your policy could be worth when you die. This will depend on what kind of policy it is and the use of different investment scenarios. Take the numbers in these charts with a big grain of salt. They're based on mortality figures, how well the investment markets perform, changes in interest rates and a whole number of other assumptions.

Term vs. Whole-Life Insurance

These are the two major kinds of life insurance. This lesson will get into the nitty-gritty of helping you decide which one is best for you.

•  Term life. It provides death benefits to your beneficiaries—protection for a specified period of time, usually two years, for example. Then the policy has to be renewed. The risk with term insurance is that something will happen to your health in the meantime. If so, your premium will probably go up or your insurer could decline to renew your policy. But the rates on term insurance fluctuate constantly. So you might be able to get the same coverage from your old company or switch to a new one offering a better deal.

•  Whole life. As its name implies, it is something most people buy because they expect to have the policy as long as they live. It also offers a savings component that term life doesn't. The problem with whole life (sometimes called a "cash value" policy) is that insurers typically pay you notoriously low rates of interest on that savings.

For most people, term insurance is the better buy, at least until their children are through with college. You come out ahead investing the difference in premiums in a mutual fund or something else where your money will earn more.

A combination life insurance strategy. After your kids are on their own, it makes sense to switch to a whole life policy you'll keep for the rest of your life for several tax reasons:

•  The earnings on the cash buildup of a whole life policy accumulate tax-free.

•  When you die the proceeds go to your heirs, bypassing probate, and they don't have to pay federal, state or local income taxes.

This money also isn't subject to estate taxes unless, by the time you die, you're worth a considerable amount as we discussed earlier in this lesson. Your heirs may need the cash value in your life insurance to help pay the cost of your funeral or to pay off any debts you left behind. In most cases, these tax benefits outweigh the higher cost of whole life insurance when you reach middle age.