Wednesday, 20 January 2016

Life Insurance? Give me some toppings!!

Back to our discussion on life insurance.  

We covered the basics in Wanna bet... on my life! and then the vanilla of the life insurance world, Term insurance, in Life Insurance? A little vanilla please!  

Now the toppings!!.

Permanent Life insurance, like the title implies, doesn't just cover a specific period of time but is there “permanently” or for your entire life.   Similar to term insurance, the insurance company calculates the average premium you need to pay across the entire term, in this case your estimated lifespan.   

Compared to term life insurance, the premiums will most likely be more expensive in the early years of the policy and less expensive later.  This is because if I bought a term policy in the early years, I would most likely be healthier and less likely to die so the cost is less.  Similarly, a term policy in later years would be more expensive since I would likely be less healthy and more likely to die. Permanent life smooths out your costs similar to when you choose an equal billing option for a utility bill to keep the payments the same.

This type of insurance usually has a built-in savings account funded by part of your premiums known as the Cash Value.   You can get this cash back if you cancel your policy or sometimes you can borrow from it directly or use it as collateral on a loan.

Permanent Life Insurance comes in two common variations – whole life and universal life.

Whole life insurance is the “chocolate topping” compared to Term life keeping your premiums the same for the life of the policy and amount paid out is guaranteed  

Universal life insurance adds the “cherry” with the ability to change the premium amount plus having an investment account.  You are able to choose how the premiums are invested, normally from a select group of investments.  The amount paid out and cash value is dependent on how well the investments do.

So when would you choose one type versus the other?  Whole life is good if you want to have certainty on what you are paying and how much your beneficiaries are going to get.   Universal life gives you growth potential and another place for investments to grow tax-free similar to an RRSP but without any maximums plus you can leave the investments in the policy for your beneficiaries or use them for income during retirement.

Now that we are talking about Permanent Life, I want to revisit the question about insurance for children.  I had several readers respond to this when it was discussed related to Term insurance.  Thank you.   I’m not a big supporter of term life insurance for children though no doubt, parents experiencing this type of loss would benefit from having the financial means to take the time to deal with the emotional pain and suffering.  Insurance is always a very personal decision. 

When it comes to Permanent Life insurance there are stronger arguments to consider it.  An individual policy for a child could be used as savings so when they become an adult, they could cancel the policy for the cash value or continue paying the premiums to keep the coverage.  A child rider (add-on) could be added to the parent’s policy and later converted into the child’s own policy when they are an adult without going through the medical tests and questionnaires to see if they are eligible for coverage.  If your child is unlucky with illness, or just makes bad health choices later in life having these options would be really valuable.

Bettina Schnarr of  HollisWealth has "come to see the value, not only in the coverage it (the rider) provides on the child today, but mainly because it can be converted (at least 5 times the initial amount), usually by the child's 25th birthday, to permanent life insurance, without proof of insurability.  These days, it's becoming harder and harder to qualify for life insurance without being rated and insurance companies also look for any hereditary conditions in the immediate family.  …they are now asking about grandparents, not only parents and siblings as before… a whole life policy for $30,000 for a 10 year old male would be at least $200/year.  However, a $30,000 child rider is around $150 and is guaranteed convertible at 5 times that amount.  The real bonus is that these child riders cover all of your kids for the same price!  So it is a lot cheaper per child the more children you have".  [Disclosure: I don’t have any investments with Bettina]. 

So aside from covering parents, if they ever suffer this type of loss, this is an investment in your child’s future.  Go with the individual policy if you want to give them the options to continue with the insurance or cash out when they are an adult or go with the rider if you worry about their health and ability to get insurance later and/or you have lots of children.

So we’ve talked about Term and Permanent Life Insurance but how do we put it all together?   The best way to think about it is in layers with one long layer covering the long term or “Permanent” needs and another shorter layer for the more temporary or “Term” needs.  Normally, you would go through a financial needs analysis with an insurance agent to determine what you need covered.

Let’s use my own situation as a very simple example.  My wife and I both are currently working with our children both in high school.  Soon they will be going to university and sometime after that we’ll be retiring.  Examples of temporary needs for us would be our mortgage, paying for our children’s education and replacing the income of a parent who dies prior to retirement.  Permanent needs would be funeral expenses, taxes and any decreases in income.  We have covered this with a combination of individual Term life policies from our employers plus purchase of additional term policies and a joint Permanent Life policy.

This concludes my series on life insurance.  If you want to do some further insurance reading, take a look at the links below.

For my next posting, I’m thinking about advice on buying a house.  If any of you have an advice to share or ideas for other topics, please drop me an email or twitter message.
James Whelan

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