Why should you have life insurance?

When it comes to buying life insurance, it's easy to procrastinate and put off the decision. Some people push the thought completely out of their minds, thinking, "Why put money into something that won't pay until after I'm dead?"

Good question, but life insurance isn't really for the person whose life is insured. It gives protection and security to the living -- the spouse, children, and loved ones left behind after the person insured dies.

Depending on the value of the policy, the person named as the beneficiary could receive $10,000, $100,000 or even $1 million. That money could go a long way toward paying funeral costs, the mortgage and day-to-day bills.

Your insurance advantage

One of the major advantages of owning life insurance, in addition to protecting your family, is that the death benefit you receive from a life insurance policy is tax-free -- and we all know that's a good thing.

Obviously, the higher the policy's death benefit or the type of insurance purchased, the higher the amount you pay for your coverage (the premium). Each kind of life insurance has its advantages and limitations. Depending on your life stage and other factors, one kind may meet your needs better than the others. "What's the difference between term and permanent insurance?" is a frequently asked question.

Term insurance

Term insurance covers a specific period (or term), say five, 10 or 20 years. If you pass away during this period, your beneficiary receives the death benefit stated on the policy. If you pass away even one day after the policy expires, your beneficiary won't receive anything.

The length of the term is important because after the term, you may not be insurable. Your health may have deteriorated, or you may have contracted an illness, making you too high of a risk to be insured again. If you're still insurable after the term ends, your premiums will likely increase because you're older and a higher risk to the insurance company. Whatever your age, though, term insurance typically has a lower premium than a permanent policy of comparable value.

Term insurance is an affordable, simple step in your financial strategy. It provides temporary protection for now, with the flexibility to adjust your insurance to meet your needs in the future. Premiums are guaranteed and will automatically renew at the end of each term. Even if your health may have deteriorated, or you may have contracted a disease or illness, your insurance coverage will continue to renew until the expiry (usually age 75 or 80).  If during that time, renewal premiums are too expensive, you can choose to convert your term insurance to permanent insurance that will have a guaranteed level premium for the lifetime of your coverage.

Term insurance meets a particular need, for example to ensure your family has money to pay for a mortgage, a car payment, or tuition after you die. It gives you affordable protection with the flexibility to choose from a wide range of terms.

Permanent or whole life insurance

A permanent life insurance policy covers you for as long as you live, rather than just a specific term.

Advisors often recommend that if you're under a specific age, you should buy permanent insurance as protection against future medical problems. Your premiums will stay the same regardless of your health.

A permanent policy typically has a cash value. This is the amount of money you'll receive if you allow your policy to lapse by not paying the premiums, or cancelling the coverage. The cash value is based on the premiums you've paid and grows over time because the insurance company invests those payments at a fixed rate for you.

Your policy may allow you to take out a loan secured by this cash value. If you die before you've paid back the loan in full, your beneficiary's death benefit will be decreased by the unpaid amount.

With term life insurance, you protect your beneficiary. With a permanent policy, you pay a higher premium, but you have the opportunity to both protect your beneficiary and have a cash value.

Universal life

Universal life insurance is a form of permanent insurance that provides lifetime protection with lots of flexibility.

With universal life, you have a policy fund, which is your cash value and acts like a cash reserve. This reserve holds both your basic payments and any additional lump sum payments you make. Your cost of insurance is deducted from your policy fund and the rest is left to accumulate interest. But unlike a regular permanent plan where your cash value increases at a fixed rate, the cash value of your universal life policy achieves an interest rate that mirrors the performance of the market indexes or managed fund accounts you select to have your policy track.

You don't pay tax on the interest in your policy fund unless you withdraw it or exceed the maximum tax-exempt limit. If there's enough in your policy fund to cover your cost of insurance, you can skip a payment because it will be deducted from the amount you've already paid into your policy fund.

Depending on the kind of universal life insurance you purchase, your beneficiary may receive not only the amount of the death benefit (your insurance coverage), but also the amount in your policy fund.

You can also include additional coverage like critical illness insurance and term coverage for your spouse or children on your universal life policy.

How much is enough?

When most people think about life insurance, they usually have two main questions: how much coverage do I need, and how long do I need it for?

Many financial experts advise that the total value of all your life insurance policies should equal five to seven times your annual income. If you're the primary salary earner, you should have coverage that equals six to 10 times your annual income; and if you’re a young adult with a mortgage and children, your coverage should be closer to the high end of the range.

Why is this ratio so high? If your household's income is $70,000 a year and your family has $200,000 worth of life insurance, almost three times your annual earnings, how far would that money go? There are numerous expenses that your spouse would have to cover if you die: the $150,000 mortgage, childcare, education, car loans and funeral expenses. The death benefit could quickly disappear.

When considering how much insurance to purchase, you should think about how much it would cost to maintain your family's standard of living if you were to die.

Company credibility

As a consumer, you have access to some protection if your life insurance company goes bankrupt. The Canadian Life and Health Insurance Compensation Corporation (CLHIC) is a federally incorporated, non-profit company that guarantees the payment of benefits (up to specific limits) to policyholders when a company is unable to pay its debts.

To check up on the health of the insurance companies, annual financial reports and periodicals like the Stone & Cox publication 2007 Canadian Life & Financial Services Directory are helpful. The number of life insurance policies a company has in force is one good indicator of their financial strength.

Logging on to several insurance companies' websites is a great way to find out what they're offering.

Advisor expertise

When important changes happen in your life - starting a new job, the birth of a child, buying a home, approaching retirement - your needs change. Those life events are a perfect time to contact an insurance advisor to help you re-evaluate your needs.

Advisors can...

outline the many insurance choices available and explain their features.
send you updates about the latest products and services on the market.
customize a financial strategy designed to meet your specific financial goals.
It's a good idea to have concerns and questions prepared before that first contact in order to have a valuable meeting with your advisor. Make sure you don't sign anything until you're absolutely certain you're getting exactly what you want.

Life insurance is a key component of a personal financial plan. It's investing in security so that your loved ones can complete their hopes and dreams.

© Sun Life Assurance Company of Canada