Younger people, and especially those under age 45, are increasingly buying life insurance. In fact, applications for life-insurance policies jumped 4% in 2020 in the U.S., the highest annual year-over-year growth rate on record, according to the year-end MIB Life Index. Read US Report - December 2020.
So, if you find yourself eager to join the crowd, eager to purchase life insurance for the first time in your life, how might you go about it, and what do you need to consider?
Do you even need life insurance?
The need for life insurance varies based on your stage in life, said Brian Vosberg, a certified financial planner with Vosberg Wealth. “Those that buy insurance when they are younger, in their 30s or 40s, usually have different motivations than those who are older, in their 60s or 70s. Younger individuals that buy insurance are generally doing so to pay off debts like a mortgage or replace income in case of premature death.”
For his part, Neal Solomon, the managing director of WealthPro, said a younger person would buy life insurance “to create an instant estate” as well as to have insurance in place if there’s a concern that getting insurance at a later time might be more difficult because of health problems.
Don’t rely only on employer-provided insurance
Many people rely on the life insurance coverage that is provided through their employer, says Vosberg. “However, many employer-provided life insurance policies cancel if you leave that employer,” he said.
His advice: Check if the life insurance offered through your employer is “portable.”
“A portable policy will allow you to keep the policy if you no longer work for that employer,” said Vosberg.
In addition to employer-provided life insurance, Vosberg says you should consider purchasing a policy outside of your employer. “This way your coverage will stay active if you change employers,” he said.
Perform a Needs Analysis
“The moment you have somebody else who's dependent on you, a spouse, a child, even a dependent parents then you have a need to make certain that if you're not able to provide the income, the medical benefits, the future pension, the future college, whatever it is that you would plan and hope to provide for that child, that spouse, that other person in your life, then you need to replace that,” said Solomon.
And that replacement is both life as well as disability insurance.
Now how much life insurance you need requires something called needs analysis. And in the world of risk management, there are three methods you (and/or financial planner) can use to determine your financial needs related to premature death: the human life value approach; the financial needs approach; and the capital retention approach.
The human life value approach uses projected future earnings; the financial needs approach evaluates income replacement needs; and the capital retention model provides a death benefit that, along with other assets, throws enough income for living expenses for your survivors.
Becca Craig, a certified financial planner with Buckingham Strategic Wealth, favors the human life value method, which takes into account income earned over a given period of time.
“You can't put a value on human life, but you can calculate their economic output overtime and monetary contribution to their loved ones,” she said.
What’s more, she notes that it typically results in the highest amount of coverage, but it fully covers all expected needs. Check out Human Life Value Calculator – Life Happens.
To be sure, Craig said there is a simple way to get a rough idea of how much life insurance to buy: Multiply gross income by 10 or 15. And then, add $100,000 to that amount for each child’s college education expenses.
What Kind of Life Insurance Should You Buy?
There are many choices when shopping for life insurance: term insurance, universal life, indexed universal life, variable life, whole life. “If you talk to two different insurance agents, you will probably get two completely different recommendations,” said Vosberg. “You need to educate yourself on the different types of insurance to help you make an informed decision on what is right for you.”
Buy Term and Convert
For those under age 45, Vosberg usually recommends term life insurance to cover basic needs. “Your basic needs include things like burial costs, debt payoffs, and income replacement,” he said. “Term insurance is an inexpensive way to cover these insurance needs. Especially those needs that will go away at some point in the future like a mortgage.”
For example, a 40-year-old male, non-smoker, in good health can purchase a $1 million, 20-year term policy for under $50 a month. By contrast, you might pay around $1,300 a month for a whole life policy.
Solomon also favors term insurance especially for young people who need a “death benefit and need a lot of it.”
According to Craig, there’s a reason why term policies are cheaper.
“When a life insurance company considers an applicant, they focus on the actual risk the applicant is likely to make a claim at some point in the future,” said Craig.
When it comes to life insurance, the ultimate risk to the company is the death of the applicant. Life insurance companies know that only 2% of term insurance policies pay a claim. Hence why most term policies are cheaper than permanent, all other factors being equal.”
One thing to note about term insurance. Most companies have an automatic convertibility privilege attached to term insurance policies, said Craig.
“This allows young people to convert term insurance to permanent policies as their goals change and progress,” she said. “Knowing this, it would behoove young people to purchase convertible term policies with sound, mutual insurance companies that have a history of strong dividend and permanent life policy performance should they want to convert later on. Read How to Reinvent Your Permanent Life Insurance Strategy in Retirement.
When to Consider Other Types of Life Insurance
Now there are other types of life insurance you could purchase that have a savings or investment component to it, said Vosberg. “When set up properly, these types of policies can provide a tax-free income stream in retirement,” he said. “However, I normally do not recommend these types of policies to cover your basic insurance needs. These should be purchased after you fund your basic needs with term insurance.”
Work with an Insurance Broker
There are essentially two ways to purchase insurance: Direct or through an adviser.
Vosberg, for his part, recommends working with an insurance broker that works with multiple insurance companies. “This way they have the ability to shop for the best and/or cheapest policy that fits your particular situation,” he said. “You also want to work with a reputable agent.”
Note, too, that insurance agents are paid a commission when they sell you a policy, said Vosberg. “So, be careful that you are not being oversold so the agent makes a bigger commission,” he said.