Life insurance, when you think about it, is a fairly simple topic.
Fact: if you’ve got dependents, they would most likely struggle financially if you died prematurely and unexpectedly. Fact: life insurance can take care of their financial needs and prevent a bad situation becoming worse.
So having a policy is common sense. Fact.
So far, so straightforward. But, inevitably, there are other points to consider. How much insurance should you buy? Do you just insure those in the family who are earning? How long should the policy last?
We can help you work through many of these important questions – clicking on the ‘?’ button will provide more information. But you may, of course, want to discuss matters with a life insurance adviser.
So how is that conversation likely to proceed? Here’s a look at the issues that should be covered when you discuss who needs life insurance with an adviser…
Most advisers recommend a sum insured equal to at least 10 times your annual salary
Your adviser will ask if your family could cope without your income. Would they be able to pay the mortgage? What about other financial commitments and day-to-day expenses? In short, if anyone relies on your income, life insurance is a must.
A good adviser will encourage you to consider life insurance even if you don’t bring in a salary. The death of a stay-at-home parent, for example, could have a financial impact as the family would perhaps have to pay for childcare and housekeeping.
As an adviser will stress, life insurance pays out a lump sum or a regular income on death and so provides financial security for your loved ones. The money is often used to clear debts, such as a mortgage, or to fund everyday living costs.
Types of cover
The adviser will explain the various types of life insurance, pointing out that one of the most popular is level term insurance. The policy runs for a set term, say 10, 20 or 25 years, and the payout remains the same whether you die in year five or year 15.
Decreasing term insurance is similar to level term, but the pay-out gets gradually smaller over the policy term. Decreasing term insurance is often linked to a repayment mortgage because the amount you owe the lender also reduces over time – so the adviser needs to be aware of your complete financial situation.
Family income benefit
With this sort of cover, the beneficiaries of the policy receive a monthly income, not a lump sum pay-out. The payments continue until the end of the policy term.
Level and decreasing term insurance pay out only if you die within the term. If you take out a 20-year policy and die in year 21, your family will get nothing. The alternative is whole-of-life cover, which pays out whenever you die. Whole of life assurance is usually more expensive, but then the pay-out is guaranteed. Your adviser should talk you through the relative merits of each policy.
Joint vs single life policy
A couple might be tempted to buy one ‘joint life’ policy instead of two single life plans, but it’s worth seeking advice before you make the decision. Joint life cover is often cheaper, but it only pays out once, if and when one of the couple dies. After this pay-out, the survivor is left without cover – and to buy a new policy at that point would cost more because of their increased age. This is why separate policies are often deemed the better option.
How much cover do you need?
An adviser will explain that the amount of cover you need is known as the ‘sum insured’ and should be selected according to your budget and circumstances. For example, someone with three young children and a large mortgage will probably buy more cover than someone with one child and a small home loan. You can take advice on calculating an exact sum assured. Most advisers recommend a sum insured equal to at least 10 times your annual salary.
Insurance companies offer various add-ons to life policies and you might want to take advice on the need for extras. If you opt to pay for ‘waiver of premium’, for example, your premiums will be paid automatically if you can no longer work due to an accident or illness.
What is critical illness cover?
Critical illness is one of the most common add-ons and pays out the policy’s sum insured if you are diagnosed with one of a list of serious conditions such as a stroke or certain types of cancer. Critical illness can be a valuable benefit but it can be expensive, costing more than the actual life insurance. Again, the adviser will explain the options and how the policy works – or you can find out for yourself through our guide to critical illness insurance.
Cost of cover
As an adviser would explain, the cost of life insurance depends on a number of factors including the type of policy, the sum insured and any extras. The insurer will also ask a number of detailed personal questions before setting the premium, such as your age, occupation and state of health. A 50-year-old smoker will almost certainly pay more for life insurance than a 30-year-old non smoker. Similarly if you suffer from ill health, you can expect a high premium. Also, the insurer will almost certainly exclude any pre-existing medical conditions.
Write the policy ‘in trust’
A crucial piece of advice is that the proceeds of a life insurance policy could form part of your estate when you die – and that your family will be liable for inheritance tax (IHT) at 40% on the value of your estate above £325,000 (the figure is £650,000 if you’re married or in a civil partnership. An easy way to sidestep the tax is to write the policy ‘in trust’. The taxman cannot then touch the money so your beneficiaries will receive their full inheritance. Tax can be complicated, so it’s definitely a good idea to seek advice on the IHT implications of your life insurance.