What Is Life Insurance?

One of the saddest things to see is when a black person gets on Facebook or Twitter and put up a Gofundme page looking to bury a loved one because they didn’t take time to plan and get life insurance. However, in today’s society, you see that happening more than it should these days. Most people view life insurance as a way of planning their death, and most people hate looking at the fact that one day their is a chance that they will die. Many look at it as a means of giving their family something they do not deserve and figure after they die being buried shouldn’t be their responsibility.  Yet, many times when people die, the family is not ready for it and it creates more of a strain on an already stressed out family.

Life insurance is a contract between an insurer and a policyholder. A life insurance policy guarantees the insurer pays a sum of money to named beneficiaries when the insured policyholder dies, in exchange for the premiums paid by the policyholder during their lifetime.

Who Should Buy Life Insurance?

Life insurance provides financial support to surviving dependents or other beneficiaries after the death of an insured. Here are some examples of people who may need life insurance:

• • Parents with minor children—If a parent dies, the loss of their income or caregiving skills could create a financial hardship. Life insurance can make sure the kids will have the financial resources they need until they can support themselves.
  • Parents with special-needs adult children—For children who require lifelong care and will never be self-sufficient, life insurance can make sure their needs will be met after their parents pass away. The death benefit can be used to fund a special needs trust that a fiduciary will manage for the adult child’s benefit.
  • Adults who own property together—Married or not, if the death of one adult would mean that the other could no longer afford loan payments, upkeep, and taxes on the property, life insurance may be a good idea.
  •  Elderly parents who want to leave money to adult children who provide their care—Many adult children sacrifice by taking time off work to care for an elderly parent who needs help. However, you need to look at the cut off of the insurance and other factors. If you’re an elderly parent and the cut off of insurance is 85, you may want to just put cash away in your savings or IRA. That money can still be used.
  • Young adults whose parents incurred private student loan debt or cosigned a loan for them—Young adults without dependents rarely need life insurance, but if a parent will be on the hook for a child’s debt after their death, the child may want to carry enough life insurance to pay off that debt.
  •  Young adults who want to lock in low rates The younger and healthier you are, the lower your insurance premiums. A 20-something adult might buy a policy even without having dependents if there is an expectation to have them in the future.
  •  Wealthy families who expect to owe estate taxes
  • Life insurance can provide funds to cover the taxes and keep the full value of the estate intact.
  • Families who can’t afford burial and funeral expenses—A small life insurance policy can provide funds to honor a loved one’s passing.
  • Businesses with key employees—If the death of a key employee, such as a CEO, would create a severe financial hardship for a firm, that firm may have an insurable interest that will allow it to purchase a life insurance policy on that employee.

How Life Insurance Works

A life insurance policy can has two main components—a death benefit and a premium. Term life insurance has these two components, but permanent or Whole life insurance policies also have a cash value component.

Term life insurance is sufficient for most families. It costs less than whole life, and you can choose a term that matches the years when people depend on you financially. By the time the term ends, you may no longer need life insurance: Your house will be paid down, your kids will be grown, and you’ll have some money in the bank.

However, whole life insurance and other forms of permanent coverage can be useful if you want to provide money for your heirs regardless of when you die. A permanent life insurance policy can also be useful if you want to spend your retirement savings but still leave an inheritance or money for final expenses, such as funeral costs.

How Much Life Insurance to Buy

Before you apply for life insurance, you should analyze your financial situation and determine how much money would be required to maintain your beneficiaries’ standard of living or meet the need for which you’re purchasing a policy.

For example, if you are the primary caretaker and have children who are two and four years old, you would want enough insurance to cover your custodial responsibilities until your children are grown up and able to support themselves. You might research the cost to hire a nanny and a housekeeper, or to use commercial childcare and a cleaning service, then perhaps add some money for education. Add up what these costs would be over the next 16 or so years, add more for inflation, and that’s the death benefit you might want to buy—if you can afford it.

Additional Uses for Life Insurance

Most people use life insurance to provide money to beneficiaries who would suffer a financial hardship upon the insured’s death. However, for wealthy individuals, the tax advantages of life insurance, including tax-deferred growth of cash value, tax-free dividends, and tax-free death benefits, can provide additional strategic opportunities.

Funding Retirement—Policies with a cash value or investment component can provide a source of retirement income. This opportunity can come with high fees and a lower death benefit, so it may only be a good option for individuals who have maxed out other tax-advantaged savings and investment accounts. The pension maximization strategy described earlier is another way life insurance can be used to fund retirement.

Avoiding Taxes—The death benefit of a life insurance policy is usually tax free.4 Wealthy individuals sometimes buy permanent life insurance within a trust to help pay the estate taxes that will be due upon their death. This strategy helps to preserve the value of the estate for their heirs. Tax avoidance is a law-abiding strategy for minimizing one’s tax liability and should not be confused with tax evasion, which is illegal.

Borrowing Money—Most permanent life insurance accumulates cash value that the policyholder can borrow against. Technically, you are borrowing money from the insurance company and using your cash value as collateral. Unlike with other types of loans, the policyholder’s credit score is not a factor. Repayment terms can be flexible, and the loan interest goes back into the policyholder’s cash value account. Policy loans can reduce the policy’s death benefit, however.