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The Basics of Life Insurance

life insurance 101

Written By Doug Mitchell

Doug Mitchell, CLU holds a BA degree in Finance from Auburn University as well as having obtained a Chartered Life Underwriter (CLU) designation from The American College in Bryn Mahr, PA.  Doug has spent close to 30 years in the insurance and financial planning industry and has held licenses to sell securities, long-term care insurance, health.  Doug is also a financial blogger addressing the topics of life insurance, annuities and retirement income planning.

Holly Mitchell  &

Holly Mitchell’s background in life insurance insurance goes back to 1985 when she worked for her father who was a New York Life agent. Holly has a marketing degree from Auburn University and has had a life insurance license since 2008. In addition to advising life insurance for customers all around the country, Holly is our website fact checker.

Rob Pinner   &

Rob Pinner is the founder and CEO of Pinner Financial Services servicing all 50 states. Rob started his insurance career in 2002.

Louis LaBash

Results-driven and innovative life insurance professional with 30 plus years of life insurance industry sales and marketing experience. Recognized as a pioneer in the field, leveraging phone and internet channels to exceed personal sales of over $100 million during the first decade of the 21st century. Creator of a highly effective intuitive IUL life insurance sales software that facilitated the sale of millions of dollars of indexed universal policies by numerous life insurance agents. Proven track record as a Managing General Agent (MGA), Life Agent, IUL Life Insurance Sales Software developer, and leading-edge creator of insurance marketing tools, educational content, and delivery systems.

Table of Contents

Considering life insurance?

Purchasing life insurance is one of the best ways to protect the people you love, but it is often met with reserve and placed on the backburner.

Although discussing your impending passing is never an easy conversation, it is a critical one to have.

If you passed away tomorrow, what financial situation would your spouse, children, or business be facing?

Knowing where to start in the world of life insurance can be challenging. But with the right tools, you can make an informed decision and purchase an affordable policy tailored to your needs.

With years of experience and dedicated research, we’ve simplified the process for you.

Read on for our comprehensive guide to purchasing life insurance in exchange for some peace of mind.

Life Insurance 101: Everything You Need To Know

If you’re hesitant to dive into a five or six-figure policy, you aren’t alone. People tend to approach life insurance with a measure of hesitation, assuming they don’t need it or can’t afford it.

Aside from avoiding a morbid discussion or leaving life insurance among tomorrow’s concerns, people forego purchasing life insurance based on misconceptions.

Here are a few you may have heard (or thought yourself):

“I’m young and healthy, so I don’t actually need life insurance right now.”

“I’m single and childless, so no one relies on my income to live.”

“Life insurance is beneficial, but it’s far too expensive for me.”

Although some young, healthy, single individuals may not need to purchase life insurance and certain policies are indeed expensive, you have to consider a combination of factors in your decision.

And there is a multitude of affordable life insurance options; you just have to know where to look.

Why Do You Need Life Insurance?

Before we start shopping, let’s take a look at a few reasons you need to purchase life insurance:

  1. You Have Debts
  2. You Have A Business
  3. You Have Dependents
  4. You Have Legacy Desires
  5. Price Locking

You Are In Debt

Did your parents cosign on a private student loan you’re still paying down from college?

Likewise, did your spouse cosign on your auto loan?

If you have any transferable debt that isn’t forgiven when you die, without life insurance, your family or friends could be left with the burden of paying it off.

Perhaps you’ve accumulated a mountain of debt none of your loved ones signed off on. Though they may not be legally obligated to pay back your debts, your estate could be taken from them in the process.

You Own A Business

If you own a business and want to guarantee its financial security in the event of your passing, you can use a life insurance policy to pad it, your business partners, and your family.

Whether you choose personal life insurance, a shared policy with your partners, or key man insurance, you can protect the people who matter most from the blow.

You Are A Source Of Income For Someone Else

Does anyone rely on you for financial stability? If they do, life insurance is the best way to provide for them in the wake of your passing.

If you are a spouse, parent, grandparent, or caregiver for your parents, you need to purchase an adequate life insurance policy to protect them. How much money would it take to replace your salary and secure your spouse or children’s wellbeing? Use that amount as a basis for your policy.

You Want To Provide A Legacy For Your Descendants

Investment accounts are a wonderful way to ensure a prosperous future for your heirs, but one of the best investments you can make in their future is purchasing a life insurance policy.

Do you hope to fund something specific, like your children or grandchildren’s college careers? Or would you simply like to leave an inheritance to your descendants?

Whatever your specific needs are, there are a plethora of life insurance policies on the market to help you leave a legacy for your loved ones.

Insurance Rates Increase With Age

The longer you wait to purchase life insurance, the more expensive your premiums will be. Because health typically declines with age, your risk factor and premiums increase.

Waiting for just one year can impact your premium costs, even if you remain in good health (especially when you reach your 30’s and 40’s). And if a sudden illness befalls you in that year’s worth of time, you could end up paying a sizeable amount more for a policy.

Side note: The list above contains some definitive reasons to purchase life insurance. Do note, however, that not everyone should purchase life insurance immediately.

If you are a twenty-something in excellent health, single, and debt-free, a life insurance policy might not be the best use of your money.

Otherwise, a policy is key.

Now that we’ve mapped some of the primary reasons to purchase life insurance, we can discuss what type of policy you need. In order to unpack those policies, though, you need a general understanding of the basic terms associated with life insurance.

Key Life Insurance Terms

  • Beneficiary: The individual, party, or organization who receives the money from your policy when you die, which you designate upon purchasing the plan and can change any time following.
  • Cash value: The amount of money that grows in a permanent whole life policy over time.
  • Contestability Period: Contestability Periods protect insurers from fraudulent information given by the policyholder.
  • Death Benefit: The total amount of the policy paid to its beneficiaries upon the death of the policyholder.
  • Dividend: Benefit of a whole life policy which pays a percentage of the total amount of the policy to the policyholder on a scheduled basis (similar to a traditional investment dividend), either as a cash amount or to offset the account’s expenses.
  • Insured: The individual covered by the policy.
  • Policy: The written document itself lays out the terms of the insurance plan and signifies the insurance provider’s legal commitment to honoring those terms.
  • Policyholder: The owner of the life insurance policy, usually the same person insured by the policy.
  • Premium: The amount of money the policyholder pays to the insurance company to maintain the policy.
  • Rider: A condition added to the policy which either extends coverage or limits it.
  • Risk classification: Insurer’s method of assessing the risk of taking on the insured based on their health, lifestyle, profession, and other factors that impact rating and premiums.
  • Structured Settlement: Structured settlements payout settlement money over a course of years rather than one lump sum.
  • Underwriter: Professional tasked with assessing the rating category of a prospective policyholder using risk classification.

Types of Life Insurance Explained

With those working terms in mind, we can take a look at the various types of life insurance policies available.

Some options are more popular than others, and with good reason, but which type of insurance policy you purchase depends completely on your unique circumstances.

Read on for a brief explanation of each type and an assessment of how they stack up to help you decide which one might be best for you.

Accidental Death and Dismemberment Insurance

With an accidental death and dismemberment policy, you will receive death benefits only if the policyholder dies in an accident. This type of policy also pays out benefits if you lose a limb or one of your senses, or if you’re left in a coma or paralyzed as the result of an accident.

It does not cover death or impact from surgery, an overdose, suicide attempt, drunk driving, or adventurous endeavors like bungee jumping, skydiving, or racing.

If its coverage is so limited, why do people purchase AD&D?

The chance of the company ever actually having to pay out a benefit is lower than with a traditional plan. And lower risk equates to lower premiums in the insurance world.

Bottom Line

AD&D coverage is affordable but not the best bang for your buck in and of itself. Many companies offer AD&D to their employees, so using it to supplement a more comprehensive life insurance plan could be smart.

However, it shouldn’t be your primary life insurance (or disability) plan.

Credit Life Insurance

If you’ve taken out a loan, like a mortgage, you can purchase an insurance policy to be applied specifically to paying off that loan in the event of your death. With a credit life insurance policy, the cash value decreases as your loan balance does, with the goal being for both to reach $0.

You may be offered a credit insurance policy when you take out a new loan from the bank, as the policy protects the lender in the long run. Rather than benefiting your loved ones in a tradition payout, the money on your policy is directly paid to the lender to settle your debt.

Credit life insurance appeals to people because it requires no medical exam and is guaranteed.

The downside is the cost. Unless your health is in shambles, you can obtain a term life policy for the same amount for far less money. It won’t decrease over time and is directly paid to your loved ones.

Final Expense Insurance

Final expense life insurance is another type of insurance geared towards a very specific purpose. Rather than replacing income or forgiving a debt, as its name implies, this policy pays for your final expenses.

If you’ve planned a funeral in the past, you know the cost of burial services, a memorial, and headstones is high. With funeral costs averaging around $10,000, a final expense plan can help cushion the blow for your family in an already difficult time.

Final expense plans can help pay any final unforgiven medical bills as well.

With the risk and benefit of being low (most plans cap off around $50k), final expense plans are affordable at any age and level of health.

Final expense plans, while limited in their coverage, might be a viable option for an elderly individual looking to protect their family from funeral costs.

Survivorship Insurance

Survivorship policies, commonly referred to as second-to-die policies, are joint insurance plans that payout to the plan’s beneficiaries after both policyholders die. With a survivorship policy, you have a variety of plans to choose from, like whole life, universal, and variable. Like all whole and universal plans, you’ll end up paying more than you might with a term plan since your policy will be permanent.

But as a permanent plan, you also get the benefit of an accumulating cash value.

Survivorship policies could be beneficial for couples whose finances would still be secure in the event of the death of one spouse, who wish to leave a legacy for their descendants.

Term Life Insurance

By far the most popular choice for life insurance, term life insurance offers extensive coverage at an affordable cost.

Term life insurance is also appealing because of its simplicity and flexibility, as the policyholder sets the terms. With a term life policy, you purchase a plan for an amount of money you specify, with coverage lasting for a specific term, like 10, 15, 20, or 30 years. Since the policy isn’t guaranteed for life, it ends up being far more affordable than a whole life policy.

Say you’re single and plan to be debt free by 2030.

In that case, you may want to purchase a 15-year plan.

Or if you’re nearing retirement, you could purchase a plan for the term length needed to get you over the finish line.

The possibilities are far more expansive with a term life plan than with any of its competitors.

Universal Life Insurance

Like whole life, universal life insurance is a permanent policy, meaning if you purchase it your beneficiaries receive a cash value along with a death benefit.

For instance, if you purchase a whole life insurance plan, you are essentially locked into its cash value percent and premium cost. With a universal life insurance plan, you can sometimes change the distribution of your contributions between your cash value and death benefit.

And in some cases, you can actually adjust the cost of your premiums.

One type of universal policy, variable, lets you put the investment component of your policy into mutual funds as opposed to locking you into an established interest rate.

Your account is also managed by professionals who watch the market closely.

Another type, indexed universal life, bases the growth of your cash value upon a combination of an index, like the S&P 500, and a minimum base rate. In one sense, your earning potential is hindered, but you’re also protected from losing it all with the guaranteed minimum rate.

A guaranteed universal life policy has a set death benefit and premium cost, but it usually doesn’t come with a cash value, so it operates like a term life policy that covers you for the rest of your life.

Guaranteed universal life is a more affordable permanent policy than the others, but it has no tolerance for lapsed payments, making it a somewhat risky purchase as well.

Whole Life Insurance

One of the most common alternatives to term life insurance, whole life insurance is the most secure and guaranteed life insurance policy you can purchase.

There are no terms, so it doesn’t run out, your rates do not change, and there is a cash value component.

You can look at cash value as a savings account, where your money accumulates at a set interest rate.

In other words, you know exactly what you’re getting when you purchase the policy.

If you were to contract a sudden illness or face a health decline in the future, your premiums would be unaffected, contrary to how most other policies function. All you are responsible for is making payments on time. With all that security and the added investment component, whole life insurance plans are the most expensive type of life insurance you can buy.

In fact, you could be paying 5 to 10 times more on a whole life plan than you would on a term policy of the same size.

With such steep premiums, many people can’t afford to buy as much coverage as they actually need or end up defaulting on payments if unexpected events affect their income.

If, on the other hand, you are a high-income individual looking to diversify your portfolio, you might benefit from a whole life policy. Otherwise, proceed with caution if you’re considering whole life insurance, and keep in mind that there are a whole host of investment opportunities with better returns.

How Much Life Insurance Do I Need?

With an understanding of the types of policies you can purchase, you may be wondering how much insurance you actually need. Once again, to determine the size of your policy, you need to assess your unique situation.

At the surface level, you can determine how much life insurance to purchase by totaling your expenses and obligations for the term of the policy and subtracting your savings, investments, and other assets.

To calculate the expenses beneath the surface, you need to ask why, specifically, you are purchasing life insurance.

  • If you’re purchasing life insurance to replace your income in the event of your passing, then you need to make sure you purchase a large enough policy to do that. Factors unique to your situation might impact the number, but financial advisors generally recommend multiplying your income by 10.
  • Are you trying to ensure your children’s success in college in addition to replacing income, as we discussed earlier? If so, assess how much 4 years of college tuition might cost per child and add that to your 10x.
  • Paying off debt? This total is a bit more objective if you know how long your repayment plan will last and how much money you owe. Be sure to realistically factor your debt into your policy purchase.
  • Are you simply trying to leave a legacy for your children and grandchildren? If so, the process for calculating your policy amount is different; it’s totally dependent on your unique circumstances.

How Are Life Insurance Premiums Calculated?

Whether you choose a term life insurance policy or a permanent one, a series of factors will impact the cost of your premiums.

Below are the key players in determining the cost of your premiums:

  • Age. Each year of your life inevitably brings you closer to its conclusion, which affects your premiums. While the percentage of increase may vary from year to year, your rates will undoubtedly increase with every year you wait to purchase a policy. By the time you reach your fifties, you could see over a 10% increase from one year to the next.
  • Health. The healthier you are, the lower your life insurance rates will be, plain and simple. If you’re a smoker, have high blood pressure, are overweight, or suffer from any other documented ailment, it may affect your premiums. Many providers offer no exam life insurance, but you will pay more for it.
  • Family health history. If your family has a genetic predisposition to, say, heart disease, that could affect your premiums, even if you yourself may not have experienced a condition.
  • Gender. Statistics across the board show that women tend to outlive men. If you’re a female, that life expectancy is good news for your life insurance as well, making your rates slightly cheaper.
  • Lifestyle. Do you live an adventurous life? If so, your high-risk lifestyle could impact premiums. Whether you can’t resist skydiving, travel to exotic locations regularly, or work a hazardous job, the chances of your insurer having to pay out your policy are a bit higher than they are for, say, a stay at home mom living in the suburbs.

Tips for Purchasing Life Insurance

When it comes to life insurance rates, it’s all about risk. Based on the factors above, you will be placed in a life insurance class. Depending on your insurance company, the names of these categories may differ.

Before you buy a policy, you need to check the financial rating of the company.

Lower Your Risk Factors

Generally, you’ll see a preferred plus or premium plus category for people in excellent health with low-risk lifestyles and no risky family health history.

The next category preferred houses applicants in good health with little to no risk factors and no premature deaths (before 60) from health issues in the immediate family. This category provides a bit more flexibility with weight, blood pressure, and cholesterol.

Policyholders with average health who may be overweight or treating health conditions usually fall into the standard category, even if a parent or sibling has passed away prior to turning 60.

Beyond those three primary categories are the smokers’ classes. Preferred smokers are those who meet the criteria of a preferred plan aside from their smoking, or those who have recently quit. And standard smokers are those who meet standard health criterion outside of smoking.

While you can’t turn back the clock or control your family’s health history, there are steps you can take to get lower rates.

Lowering Your Life Insurance Premium

  • Reach a healthy weight and maintain it. Your rating class will be based in part on standard data, like a weight chart. The healthier your weight, the higher your rating. Do be mindful, though, of fluctuating weight.  You need to maintain a healthy weight to demonstrate a long-term commitment to health to your insurer.
  • Lower your blood pressure, cholesterol, etc. If you have a condition, showing that you’re keeping it controlled is key. If regular appointments with your doctor and medication are needed to keep your condition under control, be transparent. It’s better to display dedication to maintaining your health, and you could potentially still qualify for Preferred Plus rates depending on the extent of your condition.
  • Ditch the cigarettes. Whether you smoke it or chew it, tobacco is detrimental to your health. Smoking sends life insurance rates skyrocketing, but there’s hope! The more years you go without smoking, the better your rating gets. For instance, if you haven’t smoked in 5 years, you could be eligible for Preferred Plus.
  • Play it safe. If you’re serious about lowering premiums, you can always scale back on your perilous pursuits. Cutting back on rock climbing, bungee jumping, and skydiving is a good place to start. But if you love thrill-seeking, you should still be able to get good rates by maintaining your health.
  • Get started today. Since premiums increase with age, and the increase is substantial later in life, purchasing life insurance as soon as possible is one of the best ways to save, whether your purchase a term or permanent policy. Lock your rates in today and save in the long run.

Know Your Needs

Be realistic about your finances, have the hard conversations, and decide on a policy with your loved ones.

For most people, a term life insurance policy is the wisest decision, providing ample coverage at completely affordable costs. However, each family’s circumstances are different, so research all the options above to decide what policy will best meet your needs.

If you do choose a term life policy, consider the dates and amounts carefully, and be sure you actually take out sufficient coverage to meet your needs.

Shop Around

Don’t jump hastily into a policy just because a financial advisor makes an appealing pitch for it. Likewise, don’t blindly purchase an identical policy to a friend’s. What works for them may not be ideal for you.

Consult with agents who have your best interests at heart to get a great life insurance policy.

One of the best ways to ensure you get the lowest rates on the market is to shop around. And with our tools, it’s easier than ever.

Using our free online life insurance quoting tool, you just provide us with a bit of information about yourself and let our system do the work.

Within minutes, you’ll have access to premium quotes from insurers.

Common Life Insurance Mistakes to Avoid

There are some common pitfalls associated with purchasing life insurance. Avoid them, and you’ll be able to get the quality coverage you need.

Don’t trip up with the mistakes below, like:

Making a Minor a Beneficiary Without Safeguards

If you’re a single or divorced parent and you’re getting a life insurance policy, your thought process probably is running along the lines of: Of course, I’m designating my kids as my beneficiaries. They’re the reason I’m getting life insurance.

But if you don’t have those safeguards in place, your kids may face some problems. For instance, The Cincinnati Enquirer ran a sad story about a mother with 3 sons and a $50,000 life insurance policy for funeral expenses with the remainder to be split among her three children.

When she died much sooner than she likely expected — her 16-year-old son found that he couldn’t collect the money in time for a proper burial. His mother was going to be cremated without a service, agonizing all three sons.

Fortunately, several churches and extended family raised $3,500 for a memorial service, donations came in, and everything worked out — and sooner or later, the 16-year-old will get the $50,000 to split among his siblings, if it hasn’t happened already.

But this type of scenario can be avoided by setting up a Uniform Transfers to Minor Act, an account for a minor at a life insurance company, bank, or other financial institution (available in 48 states; South Carolina and Vermont are the only holdouts).

When a UTMA is set up, a custodian, named by the parent, controls and manages the assets for the minor.

Or you can set up a trust, which is more complex, but an adult is in charge of distributing the funds. Just make sure that adult is someone you trust.

Not Having Backup Beneficiaries

What if your loved ones are with you when something terrible happens? It isn’t something anyone wants to dwell on, and so we won’t spend much time in this paragraph. Just suffice it to say that if something happened to you and your spouse and your kids, wouldn’t you want your life insurance policy to go toward your aging parents, or perhaps a sibling?

If you don’t have a back-up beneficiary in mind, your money will likely go to your estate, which sounds nice enough.

But it could be subjected to state inheritance taxes or a higher state death tax than it would have been had it gone to a loved one — and since it will wind up in your estate, the courts will probably get a significant amount of that money as they decide who should get your life insurance money.

Relying On Coverage Provided by Your Employer

One of the most common life insurance mistakes people make is relying completely on the coverage provided by their employer. Many employers offer their employees group life insurance coverage. It is usually one to two times your base salary with no extra costs.

As the employee, you can buy additional coverage and the expense will be taken from your paycheck. However, the coverage through your employer is often more expensive than an individual policy, generally by 30%-70%.

Because it is a group coverage, everyone pays the same rate.  A relatively healthy person will be paying the same amount as someone who has a health condition.

Furthermore, employer-provided life insurance will not follow you after you leave. Job changes can occur unexpectedly. So it would be prudent to have life insurance coverage outside of that offered by your employer.

Waiting to Buy Coverage

As we mentioned above, rates increase with age. Big mistake. Sure, you may feel like you’re young and healthy. And if you are in good health, you’re probably right that you’re not exactly a likely candidate to wind up with a disease.

But things happen. When you sell life insurance, you can’t help but notice the stories that are out there. There’s a terrible story of a 30-year-old woman in San Antonio who had foot surgery.

Something went wrong, however, and ten minutes into the surgery, she went into cardiac arrest. She came out of it okay, but she was told she needed a pacemaker. And during that operation, she went into cardiac arrest again and died.

She leaves behind an 11-year-old paraplegic daughter — and no life insurance. In so many ways, life insurance is something that your loved ones can’t afford for you not to have.

But even if you get through life just fine, keep in mind that when you’re younger, your premiums are usually lower because you’re young and healthy. And they’ll stay low.

When you’re older and you get life insurance, your premiums are going to be higher. And unless you get in better health and then find a new policy, they’ll stay that way.

Never Looking at Your Policy Again

As I mentioned, most people, after they buy life insurance, understandably don’t want to ever think about it again. But what if you have more children?

If you were a bit underinsured to begin with, now you really are. You might, over the years, see your income shoot up, along with your lifestyle, and then become underinsured. What if you get divorced?

Especially if it was an ugly divorce. And especially if the two of you don’t have children who he or she will be caring for. Do you really want to buy the farm and have your ex feel like he or she just won the lottery?

Not Buying Enough Insurance

Plenty of surveys have shown that many Americans believe that life insurance should only replace monthly bills and funeral expenses. If you need a final expense quote, we can certainly help.

That isn’t a bad start, but you also need to think about whether you want your family to have money for extras like clothes, doctors’ visits, the occasional vacation, and especially college.

You can look to the guide above to determine the right amount for you.

It’s certainly possible to buy too much insurance — but you really don’t want to buy too little. Still, even too little is better than the worst mistake you can make with not purchasing life insurance.

Bottom Line: Life Insurance Is Worth It!

Life is unpredictable. But the condition your family or business will be in if you pass away doesn’t have to be.

Securing your loved ones’ future is easier than ever with the right knowledge on hand.

For the amount of money you spend monthly on streaming and other subscriptions, you could be protecting your legacy and getting peace of mind.

Are you protected?

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Doug Mitchell, CLU

Doug Mitchell, CLU

Doug Mitchell, CLU holds a BA degree in Finance from Auburn University as well as having obtained a Chartered Life Underwriter (CLU) designation from The American College in Bryn Mahr, PA. Doug has spent close to 30 years in the life insurance and financial planning industry and has held licenses to sell securities, long-term care insurance, health. Some other notable items about Doug: Top of the Table Million Dollar Round Table member (MDRT). (MDRT is a global, independent association of the world’s leading life insurance advisors) | Premier Partner with Lincoln Financial and Cabinet Member | Served two years as President of the Auburn/Opelika Association of Financial Advisors | Life Millionaire status at Horace Mann Insurance Company and was awarded the Life Agent of the Year Award | New York Life, Executive Council Member | Currently serves as President of Ogletree Financial, a life insurance General Agency. | Doug is also a financial blogger addressing the topics of life insurance, annuities and retirement income planning.

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