What does life insurance cover?

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Planning for life after death is never an easy topic to approach. However, doing so now can provide your loved ones with great benefits in the long run. One of the best ways to ensure your loved ones are prepared to handle life following your death is by taking out a life insurance policy. There are many things that life insurance covers, many of which can help ease the burden associated with settling your affairs after you’ve passed on.

Many people are unaware of what life insurance is used for and what life insurance covers. From providing assistance with estate planning to reducing the debt obligation for your loved ones, life insurance can help ease the transition for life after death. By taking the time to understand what life insurance covers now, you can prepare a plan of action for your loved ones in the future.

What does life insurance cover?

According to insurance expert, Laura Adams, “The purpose of life insurance is to make sure that people who depend on you, such as a spouse, partner, children, and aging parents, wouldn’t be hurt financially after your death.” There are many things that life insurance covers that can help reduce the financial burden associated with settling your affairs, including funeral costs, debt settlements and estate planning.

Monthly bills and expenses

Whether or not you’re the main source of income for your family, it’s likely that you help cover the cost of rent, mortgage, groceries, utilities, child care and other household necessities. For this reason, it’s recommended that people take out a life insurance policy that’s equal to 10 – 15 times their current income. This will help your loved ones maintain their current lifestyle after you’re gone, reducing their financial burden following your death.

Co-signed debts

“If you have any co-signed loans, such as home, auto or student loans, the other party would be fully responsible for your debt after you die,” says Adams. “So, it’s critical to have enough life insurance to cover your portion.”

Even debts that aren’t officially co-signed by a family member or loved one may become their financial responsibility after your death. Life insurance policies help cover the cost of these debts so your loved ones can settle any remaining balances in your absence without experiencing financial turmoil.

College tuition and education

If you’re financially responsible for your child’s college tuition or education, it’s a good idea to factor in these costs when determining how much coverage you need. The average cost of college tuition according to a recent 2020 Sallie Mae survey is as follows:

  • Private ranked college: $35,087
  • Public, out-of-state college: $21,184
  • Public, in-state college: $9,687

Life insurance beneficiaries are able to spend the payout however they like, meaning the proceeds can help them pay for their ongoing education in the event of your death.

End-of-life expenses

Life insurance policies can also be used for covering the cost of end-of-life expenses. It may come as a surprise to learn that funeral costs can be anywhere between $7,000 and $12,000.

Be sure to review the costs of your desired burial wishes and discuss your end-of-life plan with your family so they can make the appropriate arrangements. This will also help you select the amount of coverage necessary to aid in their financial obligation for your funeral expenses.

Child care or dependent care

From daycare and after-school programs to nannies and other expenses, life insurance policies can help cover any child care expenses for which you currently pay for or do yourself. By taking out a life insurance policy, you can effectively cover these costs and allow your loved ones to continue living the same quality of life they have come to enjoy.

Medical expenses and long-term care

Many life insurance policies provide an accelerated death benefit rider, which provides the policy holder with access to a portion of their death benefit prior to their passing if they’ve been diagnosed with a terminal illness. This helps you pay for medical expenses while you’re still alive, reducing the financial burden on your loved ones after your passing.

While this is a great benefit to have, policy holders should know that by removing a portion of their death benefit, they will effectively reduce the total amount paid out to their beneficiaries after their death. For example, if you have a $500,000 life insurance policy and use $100,000 to pay for medical expenses while still alive, the beneficiary will be paid out $400,000 rather than the full amount indicated in the policy details.

Estate planning

In addition to funeral costs, life insurance can cover the cost of estate planning following one’s death. Estate planning is a little different from end-of-life expenses in that it involves securing an attorney to close out any remaining accounts in the decedent’s name and officially report the death to the county and IRS.

“A life policy can be used as an estate planning tool to make sure your heirs could cover legal fees and taxes,” says Adams. Many people fail to realize that decedents will still owe taxes to the IRS, and a life insurance policy can help them cover these costs so they are not incurring unnecessary financial burden.

Leaving a legacy

“If you want to leave a financial legacy with particular organizations or charities, you can include them as a life insurance beneficiary,” says Adams. This is a great way for policyholders to not only ensure their loved ones are taken care of, but to also make sure they can still contribute to the causes they care about following their death.

But a legacy doesn’t just mean listing a charitable organization as a beneficiary. You can also set aside enough money for your loved ones to not only take care of immediate financial needs following your death, but to also help them plan for their long-term financial goals. Again, beneficiaries can use the proceeds for whatever they want, so leaving behind a large sum or planning a trust fund with their life insurance payout can help them put a down payment on a home, start a business, or further their education.

What does life insurance not cover?

While life insurance covers many helpful things for policy holders and their beneficiaries, it’s equally important to understand the things that life insurance does not cover. The following outlines some of the most notable items that are not covered by life insurance:

  • Expired policies: Term life insurance is provided at a set number of years. Once the term ends, the policy holder’s coverage is no longer active. For example, if you purchase a 20-year term life insurance policy but do not die before that term ends, your beneficiaries will not receive a payout. For those seeking life insurance that does not expire, it’s a good idea to choose whole life insurance.
  • Fraud: Life insurance policies come with a contestability period, which is usually a two-year period following the date from which your policy goes into effect. If you pass away during this time and your insurer discovers that you misrepresented something on your application, your beneficiaries may be denied their payout claim. Most of the time, contestability periods only come into effect if the policy holder has died under suspicious circumstances; however, any misrepresentation can cause a claim denial, so it’s important to ensure all information entered in your application is accurate.
  • Criminal activity: If a policy holder willingly commits a crime and dies during the criminal activity, the beneficiaries will not be eligible for an approved claim.
  • Exclusions: While rare, some insurance carriers provide exclusions that identify specific circumstances in which a policy holder’s beneficiary may not be eligible to receive a payout if the policy holder dies as a result of a hazardous activity. Exclusions most commonly apply to deaths caused due to piloting an aircraft; however, there may be other exclusions stipulated in your policy depending on where you live in the United States. Be sure to carefully review your policy to understand if you may be considered an at-risk policy holder.

Frequently Asked Questions

How much does life insurance cover?

Policy holders decide on their death benefit coverage at the time they apply for their policy. It’s generally recommended for individuals to take out a policy in the amount of 10 – 15 times their current income as this will ensure all expenses are accounted for after their passing.

When does a life insurance policy pay out?

After the policy holder’s death, the beneficiary will need to file a claim with the insurance carrier in order to receive their payout. This can be a lengthy process, and can take a few weeks for the payout to finally arrive. Depending on how the policy holder set up their payout stipulations, beneficiaries will either receive the payout in one lump sum, or will receive the funds in monthly or annual installments.