So much of the maintenance of our personal finances falls into the category of “boring, but important.” But when it comes to life insurance, our subconscious resistance to the topic is further compounded because, unlike retirement or career planning, your pot of gold at the end of the life insurance rainbow is actually a headstone.
We don’t like to talk about life insurance for numerous reasons, but especially because it requires acknowledgment of the fragility of our own lives, and of those we love. But considering the extremely high probability of our mortality, life insurance is one of the most important topics to include in your financial spring cleaning.
To ensure your life insurance planning is on track, ask and answer these five questions:
1. Where are your policies? Yes, it’s important to know where your original, physical policies are (and it’s a good idea to communicate that information to the Personal Representative in your will). But you also want to ensure that all of the policies you think you own are, indeed, active.
Many life insurance companies only send a single annual statement, so if your automatic draft setup changed or you missed your bill in the mail, you might have surrendered your policy without even knowing it. (If this turns out to be true, talk to your agent about the possibility of having the policy reinstated before you get a new one.)
Once confirming the location and standing of your policies, consider holding onto the single annual statement–and proof of premium payments, for good measure–for each policy throughout its lifetime for your records.
2. What type of policies do you have? There are vast differences in the genre and performance of life insurance policies. If you have a group policy through your company benefits, the chances are good that it is periodically renewable, meaning the rates rise every five years or so. This is one of several reasons that the corpus of your life insurance plan should not be dependent upon group policies. (Unless your health disqualifies you from receiving reasonable rates for individually underwritten life insurance policies, they will typically be your best bet.)
If you have term life insurance, keep an eye on the length of the term. Yes, your premiums should remain stable for the entirety of the term, but many term policies continue beyond the term but with cost-prohibitive premiums. If you sense that you might need life insurance longer than you expected originally, as reflected in your current term policy, it may be wise to apply for a new policy to extend the term. Just be careful not to surrender the original until the new policy is in place.
If you have a permanent life insurance policy–like whole life or variable universal life–it’s possible that your premiums can change, and it’s very likely that the “cash value”–the savings feature inside of the policy–has changed. If you really want to keep a close eye on the performance of the cash value, ask your agent for an in-force illustration and compare it with the original illustration you received when you took out the policy. (Just be careful–some agents start sweating when you ask for these.)
Jarid King of First Element Insurance recommends collecting in-force ledgers every two-to-three years to determine the following:
1. How the policy is performing based on the current premium structure.
2. How much premium should be paid for the policy to reach maturity.
3. How the policy compares to current market options.
But the vast majority of households don’t require permanent life insurance policies. These policies are often sold–inappropriately and with very high commissions–as investment vehicles, but unless you’ve maxed out several more efficient and effective savings vehicles (like your emergency reserves, 401(k)s, IRAs, Roth IRAs, 529 plans and liquid investment savings, to name a few), it’s likely that you should be buying term life and focusing your investment efforts to filling those other buckets.
(Permanent life insurance is most appropriate for business owners funding buy/sell policies and very wealthy families using life insurance to lessen the bite that estate and inheritance taxes might take out of their abundant nest eggs.)
3. Who are the beneficiaries of your policies? These are the folks whose stress over your loss can be eased with effective life insurance planning. You need to have at least a primary beneficiary in order to have a life insurance policy, and they must have an “insurable interest”–a degree of financial dependence–in your livelihood. This primary beneficiary may change over time–if they pass on before you or you get a divorce, for example.
In addition to your primary beneficiary, it’s highly recommended that you have a contingent beneficiary or beneficiaries. The typical scenario would place your spouse as the primary beneficiary and the kids as the secondary beneficiaries, but it is imperative to sync your life insurance beneficiary designations with your estate planning. Depending on your plans, it may be wise to name a trust or your estate as the contingent beneficiary.
4. What is the death benefit of your policies? This is the amount paid to the aforementioned beneficiaries listed in the policy if the insured–presumably you, sorry–leaves this earth. The death benefit is the reason you purchased life insurance in the first place, to help compensate for your lack of economic influence on the household in the case of your passing.
The amount you need may rise with your standard of living or the growth of your family, but it will hopefully fall as you near retirement if (BIG IF) you’ve saved sufficiently. Once you’re financially independent, you don’t need any life insurance (but it’s possible you may still want some).
Not sure how much you need? You can conduct a thorough life insurance needs analysis, but a simple multiple of your income–like 15 times–will be appropriate in most instances, especially because life insurance is almost as much art as it is accounting.
5. Are any actions necessary? Now that you’ve completed your life insurance round-up, we posit the most important question: Are any changes necessary? The answer for many is “yes” and at least “maybe” for most.
The agent who sold you the policies will likely be a big help, but that person’s conflict of interest is meaningful enough that I must suggest talking first to a knowledgeable fee-only financial planner who receives no commissions and acts as a fiduciary in all circumstances.
As you answer these five questions, however, let’s not forget the most important question to answer when considering life insurance: Why?
The answer: If anyone is dependent on you financially, you likely need life insurance.
This commentary originally appeared April 11 on Forbes.com
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