Life Insurance is an extremely popular financial tool with about 60% of United States adults owning a Life Insurance Policy.
“In 1992 and 1993 my agency led the nation in new sales for Metropolitan Property and Casualty. We were named their national agent-of-the-year. I went to the home office of Met P&C in Warwick, Rhode Island and was immediately impressed by their huge campus and gigantic buildings. My host was their national marketing director. On the wall was a picture of a building that looked a lot like the Daily Planet building where Superman worked. I asked why that picture was on his wall.
He told me that was Met’s national headquarters. I told him I thought the building I was standing in was their home office. He said we were in a regional office and there were five more just like it around the country.
That was my first glimpse of how big the life insurance industry is in the United States.” – Jim Holm, Industry Veteran
Life Insurance is a contract between a policyholder and the insurance company. The policyholder typically pays a premium and the company agrees to pay a designated beneficiary a sum of money upon the death of the insured person. Life Insurance contracts can become quite complicated for various usages based on the relationship between who owns what and who will receive which benefits within the policy.
The rules and regulations regarding Life Insurance become even more complex when the Internal Revenue Service is involved, as Life Insurance is often used to transfer wealth in a tax-favorable way.
Group vs Individual Life Insurance
Is it better to have a group life insurance policy through your work or an individual policy? It depends, “How insurable are you?”
Life Insurance is popular because it is used in so many different ways including:
Life insurance is largely used to provide an employee benefit. It is quite common for companies to provide two times the annual salary of their employees as a death benefit paid to a beneficiary designated by the employee.
Funding a buy/sell agreement is one of the most popular business uses. Most businesses have liquidity problems if one of the principals die at an unexpected time. By using the death benefit to satisfy the terms of the buy/sell between partners or shareholders, the corporation easily gets through what could be a challenging time.
Secure a Line of Credit
Banks are able to use the assets in an insurance policy to secure a loan.
Life insurance is often used to cover long-term debt that might severely impair a business’ ability to continue in the event of death to a principal.
Protect a Business from Loss
Many businesses identify their key personnel and buy life insurance on them naming the corporation as the beneficiary. This allows the business to protect themselves from the huge expense of replacing/training new personnel in the event of untimely death.
Smooth Financial Crisis
Years ago we became friends with millionaire philanthropist/columnist Percy Ross. Metropolitan sponsored his column, which is how we got to know him. Percy spoke in his book “Ask for the Moon and Get It” of meeting business money problems by using the cash values he had built in his Life Insurance policy. That was his emotional tie to Metropolitan Life. Many businesses use the policies as a way to avoid paying taxes on income for a few years, borrowing against the policy when cash is needed. That income becomes taxable if the policy is allowed to lapse.
Burial / Funeral / Senior Life / Final Expense Insurance
According to the National Funeral Directors Association the average funeral in the United States in 2012 cost $7,045 ($8,343 with a vault). Although this cost can be reduced through cremation (43.2% of funerals in the United States involved cremation) most families would find funeral expense to be a large financial burden. Many people pre-plan their funeral and fund the expense through a Life Insurance policy listing the funeral director as beneficiary.
Pay for College
Many parents and grandparents fund college for their children and grandchildren through Life Insurance. They use the policy as a savings device to meet the high cost of college. According to College Data, the average expense for a year of college (moderate budget) at a state school was $22,261 for 2012. The average cost for a private college (moderate budget) was $43,289 in 2012.
Pay Mortgages and Debts
One of the primary purposes of Life Insurance is to leave a “clean slate” behind when you die so that your loved ones are not burdened. Life Insurance is often used to payoff credit card debt, mortgage balances, bank loans, student loans, car loans and other personal debts. Some use Credit Life insurance for this, which is term life that names the lender as the beneficiary.
Guarantee Future Insurability
Because Life Insurance is used in so many ways, being able to buy it in larger amounts is often a necessary part of financial planning. Many policies are sold to people at a younger age that allow them to increase the death benefit at certain intervals throughout their life without having to meet underwriting requirements. This protects them if they acquire a physical condition that would otherwise prevent the purchase of the needed Life Insurance.
Pay Estate Taxes
Many people find that Estate Taxes force them to sell the business or farm that their parents tried to pass along to them through their will. These often untimely or unwanted sales can be avoided through proper planning by using Life Insurance.
Long Term Care Rider
Given the high cost of long-term care many people are using Life Insurance to fund that expense. MetLife estimates the monthly cost of an assisted living community to have been $3,550 in 2012. Many people would rather create cash value that would be in their policy if they don’t use the Long Term Care expense feature. By adding a Long-Term Care rider to their whole policy they feel they have taken care of their Life Insurance needs and Long-Term Care Insurance needs in one policy.
Give Money to Charity
In 2001 I and two other people noticed our local school district struggling under budget problems. This had been going on for some time. With the help of many people we created a non-profit to generate supplemental funding for our school district. I was the first president. Over the last dozen years it has provided about $5 million in charitable giving to our school district to bridge the gap between what was needed and the funding they had available.
During that process I learned how many people name charities as beneficiaries for part of the death benefit from their Life Insurance. Many people consider it a “painless” way to donate to their favorite charities.
Create an Estate
My grandmother annoyed me as a child by telling me how much money recently departed people had left their families. To my young psyche it seemed terribly materialistic to value your self worth by the amount of money you left to your family.
As I’ve aged I’ve realized that her concerns were a product of when she was born, in the late 1800’s, more than anything else.
Many people find comfort in creating a financial plan that allows them to leave an estate. Life Insurance can create an estate far in advance of when a person could accumulate such a level of wealth.
Equalize an Inheritance
My parents died days apart. My father died from a heart attack and my mother, who had been healthy, died unexpectedly from heart failure, as well. I took this as a cruel injustice, especially so when I looked down during my mother’s funeral and noted that I was standing on my father’s new grave.
Later my attorney told me that he had noticed a large number of instances of spouses dying within days of each other.
Harvard did a study involving over a million people that showed Broken Heart Syndrome is a real phenomenon especially in couples who had lived together for a long time.
Luckily, my five siblings and I resolved the estate quite amicably. I’ve seen many instances where this wasn’t the case. This is especially so when both parents die in close proximity. People grieve in different ways and arguing over estates seems to be a favorite. Without a parent to intervene, the family dynamics become quite liquid and aberrant behavior becomes the norm.
While cash from a death benefit can’t solve who will receive your mother’s favorite broach, it can be handy to smooth over the strictly financial aspects of a will.
Provide Income / Annuities
Many people use annuities, a form of Life Insurance, to provide an income flow after they retire. They also use the death benefit from Life Insurance to provide income for survivors.
Smooth Financial Crisis
Just like using Life Insurance for your business to smooth cash flow, people use the cash value built up in their Life Insurance to solve personal financial crisis.
Types of Life Insurance
There are several main forms of Life Insurance; some of them are:
Term Life Insurance
Life Insurance can be provided for a specified “term”, and that kind of policy is known by that name. Term Insurance does not accumulate cash value and normally carries a much lower premium than Whole Life Insurance with a similar death benefit amount.
One kind of term insurance that many people buy is Mortgage Life Insurance. This kind of Term Life Insurance policy normally has a decreasing death benefit that will mirror the decreasing amount of your mortgage, so that you pay for only the Life Insurance you need.
There are many people who will tell you that prudent people take the difference in premium between a whole life policy and a term policy with a similar death benefit and invest it.
Of course those mathematical studies assume a level of discipline that few of us possess.
Whole Life Insurance
Whole Life Insurance is a form of Permanent Life Insurance that provides a death benefit at normally a level premium for as long as you pay the premium. This kind of policy accumulates a cash value. The policyholder can access the cash value by withdrawing or borrowing. If the policyholder dies with a loan balanced owed, that amount will be subtracted from the death benefit paid to the beneficiary.
Universal Life Insurance
Universal Life Insurance is a form of Whole Life Insurance that allows greater flexibility for premium payment and death benefits. This can be an extremely esoteric coverage that might require special licensing for an agent.
Cash Value Life Insurance
A kind of Life Insurance that features a death benefit, and also accumulates cash value. Whole Life, Variable Life and Universal Life are kinds of Cash Value Life Insurance. Cash-value insurance is also known as Permanent Life Insurance because it provides coverage for the policyholder’s entire life.
Permanent Life Insurance
Life Insurance that does not expire and includes cash value accumulation besides a death benefit.
Variable Life Insurance
Life Insurance that accumulates a cash value on a tax-deferred basis. Operates somewhat like a mutual fund in that the insured pays premiums into an investment account that is owned by the insured. There is a death benefit, which is variable and depends on the performance of the insured’s investments. Variable life policies are securities. This is an extremely esoteric coverage that requires special licensing for an agent.
No Exam Life Insurance
Could late night cable television exist without Life Insurance that doesn’t require a physical to determine eligibility? People buy No Exam Life Insurance because they want the insurance really fast, they hate medical examinations, or they have a health condition that they think will prevent them from passing a medical examination.
Insurance companies have big beautiful home offices because they have actuaries who use mortality tables in the favor of the company to create large profits. They are not stupid. The money you will pay for No Exam Life Insurance will be significantly more than what you would pay, in most instances, for insurance through traditional channels.
It has its place, but beware, it is not a charity program.
Bank Owned Life Insurance
Bank-Owned Life Insurance is similar to corporate-owned life insurance, with the only major difference being that a bank, instead of a corporation, owns bank-owned life insurance.