Key takeaways
- Life insurance policies come in many forms and at varied price points
- Life insurance can create a financial safety net for your family, loved ones or business partners
- Some types of life insurance can provide tax-deferred growth on the cash value but are not comparable to traditional investment vehicles
- Term policies are often the most affordable form of life insurance
Although it may be uncomfortable to think about, life insurance can provide a valuable financial safety net. Policyholders pay into a life insurance policy during their life, and when they pass away, those they specified as beneficiaries receive the policy payout, also known as a death benefit. That’s the quick version of how life insurance works, but the details and varieties can be myriad. Understanding these policies’ ins and outs can help you determine when life insurance policies are worth it for you.
Types of life insurance
Perhaps the first step in answering if life insurance is worth it is to have a baseline understanding of the different types available. Knowing the differences can help you decide which policy best suits your needs and financial goals. Life insurance primarily falls into two categories: term life insurance and permanent life insurance. Each type has unique features, benefits and drawbacks that cater to various needs.
Term life insurance
Term life insurance is designed to provide coverage for a specific period, usually ranging from 10 to 30 years. If the policyholder passes away during the term, the beneficiaries receive the death benefit. Term life insurance is generally more affordable than permanent life insurance and is often chosen by individuals who need coverage for a particular time frame, such as until their children are grown or a mortgage is paid off.
Key features of term life insurance include:
- Affordability: Lower premiums make it accessible for many.
- Simplicity: Straightforward coverage without the complexities of cash value accumulation.
- Flexibility: Various term lengths to match different financial needs.
Term life insurance is often seen as a cost-effective way to provide financial protection during the years you might need it most, such as when raising a family or paying off significant debts.
Permanent life insurance
Permanent life insurance is designed to provide you coverage for your entire life as long as premiums are paid. Unlike term life insurance, it includes a cash value component that can earn interest and grow over time and can be borrowed against or withdrawn. Permanent life insurance comes in several forms, including whole life, universal life, equity-indexed universal life and variable life insurance.
Key features of permanent life insurance include:
- Lifelong coverage: Protection that lasts for the policyholder’s entire life, up to a maximum coverage range of 95 to 121 years of age.
- Cash value accumulation: A portion of the premiums contributes to a cash value component, which grows tax-deferred and can be accessed during the policyholder’s lifetime.
- Investment options: Some permanent policies, like variable life insurance, offer investment choices for the cash value.
Permanent life insurance is typically much more expensive than term life insurance due to its extended coverage duration and cash value component. It can be a strategic financial tool for individuals seeking long-term estate planning, wealth accumulation or a means to leave a financial legacy.
Understanding these different types of life insurance policies can help you decide which option best aligns with your financial goals and needs, ultimately helping you determine if life insurance policies are worth it for your situation.
Is life insurance a good investment?
Life insurance policies are not designed to serve as an investment tool for policyholders, they are insurance contracts. Instead, policies primarily serve as an income replacement tool. In a less financially literal sense, a life insurance policy can be an investment in the financial safety of your loved ones because the policy’s death benefit can replace your income if you pass away. In short, policies are often intended as a way for loved ones to cover the cost of living if the primary income earner passes away. However, they are not typically seen as an investment vehicle for making a profit.
Some policy types, like permanent life insurance, can also be part of a tax-deferred financial strategy to help avoid paying taxes on savings until you are in a lower tax bracket, presumably when you retire. There are other ways you can do this, such as IRAs and 401(k) plans, but if you’ve maxed out your investment with them, life insurance can play a small role in protecting your money.
Benefits of life insurance
Life insurance can be a vital part of your financial planning, offering a range of benefits that can provide peace of mind and financial security for you and your loved ones. It can be customized to fit your specific needs and budget, ensuring you get the most value out of your policy. Here are some of the key benefits that could make life insurance worth considering.
Replaces your income
Life insurance can be used to replace the income you would have provided. Any type of life insurance policy can help provide this benefit, which is one of the main reasons someone would purchase a policy. The death benefit can help ensure that other responsibilities — such as school tuition, mortgage payments and even basic expenses like bills and food — can be paid for even after you’re no longer around.
Leaves a legacy
Whether for your children or relatives, to continue a family business or donate to a favorite charity, you can use your life insurance death benefit to establish a legacy. Life insurance payouts can often be quite large, depending on the policy, and who receives that payout is up to the policyholder.
Relieves stress on loved ones
The death of a loved one and the responsibilities that follow are stressful. The stress is often made even more apparent when combined with the grief of loss. Having a life insurance policy — even a small one — can help make this time easier. The payout from a life insurance policy can provide the funds to pay for funeral costs, flowers, grief counseling and other services.
May accumulate cash value
You will generally pay higher premiums if you have permanent life insurance because the policy is designed to last your lifetime, with maximum coverage age ranging from 95 to 121 years, instead of expiring after a certain number of years. With policies that have a cash value component, a portion of the premiums you pay earns interest or other gains, depending on the policy, and grows tax-deferred. You can access the cash value via withdrawals or policy loans, but it could affect the death benefit amount that is paid to your beneficiary. A withdrawal is a permanent reduction from the beneficiary’s death benefit payout, whereas a policy loan accrues interest but can be paid back during your lifetime to replenish your beneficiary’s death benefit if you choose. If you pass away before the loan is repaid, your death benefit will be lowered by the amount you owe, so your beneficiary will get a lower payout.
Whole life insurance offers a guaranteed interest rate, allowing the cash value to grow slowly. Universal life insurance has more flexibility and can potentially build interest faster, depending on your specific policy. Experts recommend consulting a licensed insurance agent to determine what’s ideal for your situation.
Payout typically avoids probate
Life insurance policies are generally not considered part of the policyholders’ estate and avoid probate, going directly to the named beneficiaries. Creditors are also usually unable to collect from life insurance payouts to negate the policyholder’s debt. That is because the payout belongs to the named beneficiaries, not the policyholder’s estate. This benefit can create a protective avenue of financial transference such that difficulties with one’s estate won’t prevent a life insurance policy from providing financial security to loved ones.
Drawbacks of life insurance
While many people can benefit from life insurance, it isn’t always the best solution for everyone. Here are some of the drawbacks of purchasing life insurance.
Life insurance might be expensive for some
The cost of life insurance depends heavily on your age, health, lifestyle, policy type and death benefit amount you choose. Young and healthy people typically get the best rates on life insurance. The older you are and the more health issues you face, the more expensive life insurance will generally be.
However, the high cost of coverage may be most noticeable with a permanent life insurance policy compared to a term life policy, which is typically much cheaper. In many cases, life insurance is less expensive than you’d expect, but price is certainly a consideration. You may need to speak with a licensed agent to determine if life insurance is worth it to you.
You may have to pass a medical exam
Many life insurance policies require a medical exam. The results of the exam may be used to determine if you qualify for coverage or how much coverage a life insurance company is willing to give you. However, you may be eligible for life insurance without a medical exam.
If you are facing severe health risks, you could even opt for guaranteed-issue life insurance. These options may be more expensive than the coverage you could get with a medical exam, but for some shoppers, they could be the best choices.
You may need to spend time educating yourself
When looking into life insurance, you may encounter lots of new vocabulary. For instance, there are different types of policies, benefits and riders to make sense of, which can make comprehending your coverage options difficult. Because life insurance is an important financial purchase, you may want to consult a financial expert to help you fully understand what you are signing up for.
Term life has an expiration date
Although term life insurance is typically the cheapest, if you do not pass away within the policy term, your policy expires with no payout to your beneficiary. Many companies offer the ability to renew your policy, although renewable premiums are based on your current age and, therefore, will be more expensive than your initial fixed price. Many term policies also often include the option to convert your term policy into a permanent policy prior to expiration.
You could also consider purchasing a return of premium rider, which means that if you don’t pass away during the policy term, you’ll get your premiums back when the policy expires. These policies are typically more expensive on a monthly or annual basis, though, so be sure to keep that in mind.
Buying both term and permanent life insurance
Many people may elect to purchase both term and permanent life insurance policies, with each geared towards different goals. For instance, someone may take out a term policy with a duration that matches their mortgage so that if they pass away before the home is paid off, their spouse won’t be left struggling to pay the remaining payments. To complement this, that same individual may purchase a small permanent life insurance policy to maintain as a form of final expense insurance. In this scenario, the term policy handles large and foreseeable potential costs, while the permanent policy covers the smaller costs associated with passing away.
Other options to consider besides life insurance
Life insurance may not be the best option for everyone. Although you should work with a financial professional to determine the best path, you might consider the following alternatives to certain aspects of life insurance policies:
- Investing in the stock market: If you are comfortable with risk, the stock market may be a good way to grow your wealth over time. This option is usually best suited for those who plan on holding their investment for an extended period of time, usually for 10 or more years. While you generally do have to assign a beneficiary to your accounts, the amount your beneficiary would get if you pass away is variable based on how your investments are performing.
- Certain health insurance policies: Some life insurance policies have living benefits that allow you to use a portion of your death benefit if you are facing a chronic, critical or terminal illness. You may also be able to access some of your death benefit if you need long-term care. Buying certain health insurance policies not attached to a life insurance policy may provide similar benefits. It’s worth it to compare features and pricing between health insurance plans and life insurance plans that have health-specific riders.
- Self-funding: If you have the ability to, you could choose to set aside money in a separate savings account for use in the event of your passing. This strategy can provide similar benefits so long as you’re diligent about making contributions and committed to not dipping into the money for other expenses. Start early since it can take a long time to save enough for end-of-life expenses.
- Max out retirement accounts: Generally, the benefits of using traditional investment vehicles like 401(k)s and IRAs will outweigh those of a permanent life insurance policy. If your annual contributions to such retirement accounts are already maxed out, it may become more beneficial to utilize permanent life insurance as a supplementary store of value.
Is life insurance worth it for me?
Determining if life insurance is worth it for you involves evaluating your financial situation and personal circ*mstances. Life insurance is an affordable way to ensure your loved ones are protected from financial hardship in the event of your premature death, offering peace of mind knowing they can maintain their standard of living and cover daily expenses and debts without additional stress.
However, if your primary goal is wealth accumulation or retirement savings, traditional options like 401(k) plans or IRAs generally offer better growth potential and tax advantages.
For income replacement, term life insurance is typically the preferred choice due to its affordability and specific coverage period, such as until your mortgage is paid off or your children are financially independent. For those with a long-term dependent, like a family member with a disability, permanent life insurance might be more suitable, offering lifelong coverage and cash value accumulation that can be accessed if needed.
To provide a more personal perspective for the question at hand, we reached out to some Bankrate staff members who hold life insurance policies. Their insights highlight real-life scenarios where life insurance has proven valuable.
Sarah Gage, Senior Editor of Credit Cards at Bankrate, highlights a situation that exemplifies the critical role life insurance can play for single parents and homeowners. “I’m a single parent and a single homeowner, so having life insurance is especially important to me. I currently have both a legacy term policy I purchased when I was self-employed and employer-sponsored coverage in an amount that would ensure my son is able to stay in his home – in the good-but-expensive school district where his friends are – and launch into adulthood independently, if needed. Both policies also have either child coverage or a child rider in small amounts. I know the conventional wisdom is that term life insurance makes the most sense for those with dependents relying on their income, but if anything were to happen to him, it gives me peace of mind to know that I’d be able to cover funeral costs and time off work to grieve without a second thought. That’s morbid and hard to think about, but I’ve worked in the funeral industry in the past and know that awful things like that happen every day. I don’t think of life insurance as part of my retirement, though – right now, it’s covering specific needs, and it’s something I’ll regularly re-evaluate as my circ*mstances change.” -Sarah Gage, Senior Editor of Credit Cards at Bankrate
Gage’s experience underscores the peace of mind life insurance can provide, ensuring financial stability for her son and herself.
Denny Ceizyk, Senior Loans Writer at Bankrate, offers another perspective, emphasizing the importance of life insurance in safeguarding family well-being. “Is the expense of your policy worth the peace of mind? Absolutely. I took out a large-term policy when my daughter was born because I was the primary wage earner, and my wife was a stay-at-home mom. We met with a financial planner, and that was one of the first things we discussed. I’ve seen the difference in how members of my family coped with loss, both with and without life insurance. Those without insurance were often fighting with each other over who was responsible for what. Financial stress and anxiety over a sudden loss of income and funeral expenses overshadowed their ability to grieve the loss of a loved one. I knew I never wanted that for my family.” -Denny Ceizyk, Senior Loans Writer at Bankrate
Ceizyk’s insights highlight how life insurance can prevent financial stress during difficult times and ensure that loved ones are taken care of.
Life insurance can be a versatile tool that provides financial security and peace of mind. Evaluating your specific needs and financial goals will help determine if it’s worthwhile. Consulting with a financial professional can also provide personalized guidance to ensure you make the best decision for your situation.
Frequently asked questions
The best life insurance company offers the policy type you want, including the coverage and benefits that make the most sense for your situation. It will also have strong financial strength ratings. Once you determine your needs, gathering quotes from several carriers can help you figure out which one offers the best price. Bankrate’s analysis found that some of the best life insurance companies in various categories include Guardian, Mass Mutual, Nationwide, Mutual of Omaha, Northwestern Mutual, Prudential and State Farm.
If you’re deciding between term and permanent insurance, you may want to consider how the policies differ and what your needs are. Term life insurance generally works best for people who only want coverage for a set amount of time. Permanent life insurance, on the other hand, remains in effect for your whole life as long as you pay your premiums. Term life insurance is typically cheaper and could make sense if you only want coverage for a period of years — such as your kids’ childhood or as long as your mortgage remains in effect.
It’s true that not everyone needs life insurance. While parents arguably need life insurance the most, not having children doesn’t necessarily mean you don’t need a life insurance policy. If you have a partner who would be financially impacted by your passing, a death benefit could be helpful to them. If you take care of an elderly parent or sibling, you might look into life insurance for your family, which could help finance their care after your death. Even a business partner may benefit from your life insurance policy; it could help protect their finances and keep the business going. You could also opt to buy life insurance if no one relies on your income to help cover end-of-life medical expenses or funeral costs. Or, you could assign a charity or organization as your beneficiary so that you leave a financial gift upon your passing.
Savings accounts and life insurance serve different purposes in financial planning. Savings accounts provide a safe place to store money, offering liquidity for short-term needs and emergencies. It’s often advised to have an emergency fund with enough money to cover three to six months’ worth of living expenses.
Life insurance, on the other hand, offers long-term financial protection for your loved ones if you pass away unexpectedly. It ensures that your family can maintain their standard of living, pay off debts and cover daily expenses. If you have dependents relying on your income, life insurance might be essential for their financial security.
If you don’t have a savings or emergency fund, it might be wise to focus on building that foundation first. Once established, life insurance can provide an additional layer of financial protection. Consulting with a financial professional can help you tailor these decisions to your specific needs and goals.
