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You work hard to support your family, but what happens in the unfortunate event of your sudden death? Nobody likes to think it will happen to them, but the only certainties in life are death and taxes, and a good life insurance policy is the only way to take the sting out of both and ensure support for your family after you are gone. It is possible to divide life insurance products into 4 main categories, and it is worth researching the available options to determine which is right for you and your family.
CALCULATOR: How much life insurance do you need?
Definition and benefits of life insurance
Life insurance is a policy that protects against the loss of income resulting from your death. When you take out the policy, you define a named beneficiary who receives the proceeds from the insurance in the event of your death, safeguarding them from financial loss. In exchange for this protection, you pay periodic sums called premiums for the duration of the policy.
The aim of life insurance is to ensure financial security, and it achieves that security in 2 ways:
- Substitutes for the loss of income.
- Qualifies the insured party for favorable tax treatment.
The death proceeds from most life insurance policies are income-tax-free, and it is also possible to arrange life insurance to avoid estate taxes. In the case of whole life insurance, it is even possible to obtain a loan against the accumulated cash value of the policy without incurring any tax liability on the withdrawn sums.
Types of life insurance
As the goal of life insurance is to safeguard your family’s standard of living, it is essential to purchase a product that fulfils your requirements exactly. The payout must substitute for your income and maintain your family’s existing standard of living. Remember to factor in current and future expenses, including funeral costs, medical plans, mortgage payments, and sending the kids to college.
There are 4 main types of life insurance to consider:
- Term life insurance: This is often the cheapest option, and stays in effect for an agreed period, or until you reach a certain age. Term life insurance pays the face amount if you die within the term of the policy, but pays nothing if you outlive the policy. Premiums are usually lower while you are young, and increase with age to reflect the increased risk to the insurer.
- Whole life insurance: As the name suggests, this type of policy covers you until the point of death, or until canceled through agreement or non-payment. Over time, the product accrues a cash surrender value, which is an amount you are entitled to should you decide to terminate the policy; and it pays out a fixed amount on your death. The premium amount remains constant over the course of the policy’s term.
- Endowment life policy: This type of policy pays the assured sum upon death, or upon an agreed fixed date if you are still alive. The premiums are much higher, as they pay out a sum even if you do not die, but such policies are useful as a way of preparing for expenses later in life.
- Annuity: This is similar to a pension, and is considered a tax shelter rather than an insurance policy. Money is paid out of an investment contract under which you deposit regular sums. The annuity pays out at fixed intervals for a predetermined number of years or until your death.
With four main types of life insurance available, the choice at first may seem daunting; however, there is no time like the present to make a decision and start paying your premiums. Remember, life insurance is not something you can buy after the event. Think ahead, and make sure you have provided for your family in life and death.