Life insurance can be an intimidating concept if you’ve never confronted it before. It can provide significant benefits to your spouse and/or family upon your death, substituting your income and covering the costs of funeral expenses, but not everyone will benefit equally from having a policy. So how, exactly, does life insurance work, and under what conditions is it advisable to have it?
How Life Insurance Works
Let’s start with the basics. Life insurance works as a contract between you and a life insurance company. After shopping for a specific life insurance policy, you’ll pay to keep the policy on an ongoing basis, with a regular monthly rate, usually based on your individual risk of death and the number and type of benefits to be paid out. If you die, your beneficiaries (usually your spouse, your children, or some combination of the two) will receive benefits as specified by your policy. This can include payments for your funeral, mortgage payments, or a lump sum to serve as compensation for the lost income.
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Generally, the cost of life insurance increases with age. Per-year premiums for a life insurance policy with the same payout will increase steadily with each year you age. This is because your risk of death increases with age, and is something to keep in mind when pricing policies.
Factors to Consider
Which conditions should lead you to get life insurance? Is life insurance recommended for everybody?
The short answer is no, life insurance isn’t a good investment for everyone, but there are some factors that can help you make a better decision on whether to purchase a policy:
- Dependents are going to be your biggest priority and most important consideration when debating whether to purchase life insurance. If you don’t have any dependents, i.e., no spouse or children, you may not need life insurance to protect them. If you do have dependents, you’ll need to consider how much they truly depend on you. If your spouse doesn’t work, for example, and your salary is covering the entirety of your family’s expenses, you’ll need life insurance more than someone with two full-time working parents.
- You’ll also need to think about how much you have in savings. If you have enough money to cover all your debts, including your funeral expenses, and if you have extra money to leave behind to your family, you may not need to worry about life insurance. In that scenario, you’ll have already covered the expenses that life insurance would be designed to cover.
- Debts are another important consideration. If you have a house with an unpaid mortgage, a life insurance policy could finishing paying that debt upon your death. The same is true of business-related debts, student loans, or other debts that your spouse might otherwise take on.
- Remember, the older you get, the greater your risk of death will be, and the more expensive life insurance will become. For the most part, it’s better to purchase a life insurance policy when you’re young; not only will you be paying less per month to keep your policy, but your death also has a higher likelihood of blindsiding your family, since they won’t be anticipating it and you may not have as much accumulated wealth.
- Life insurance options. Not all life insurance policies are equal. Some are focused on meeting the baseline expenses related to your death (i.e., funeral costs), while others provide substantial benefits. You’ll also have different costs, different payment options, and different services from your provider. If your employer offers discounted or free life insurance, that’s even more of an incentive to take out a policy.
- Professional position. In some cases, you may want a life insurance policy to protect your business. For example, if you’re the founder and CEO of a business, it may be in the business’s best interest to have you protected with a life insurance policy, so it can afford to deal with the fallout of your death.
- Risk factors. You’ll generally pay a higher fee for life insurance if you face a higher risk of death. Certain health conditions, bad habits, and lifestyle factors may significantly increase your risk of death, which can push your policy rates higher.
It’s also possible to buy a life insurance policy for someone else, like if you want to insure a child, or if you want to insure a business partner, but that’s a matter for a separate article to cover. For now, it’s best for you to realize that life insurance can be a good investment, but it isn’t strictly a good investment for everyone. Think carefully about your financial position, your risks, and your specific life circumstances before you decide to get a policy.