By Erin McHugh
Life insurance: It can be a daunting topic. Most people don’t particularly enjoy thinking about the worst-case scenarios where life insurance can really shine, but for a lot of folks — especially younger generations — the subject is also intimidating because it brings up a lot of questions.
So, let’s review the basics of life insurance starting at the very beginning: What is life insurance and why do we need it?
Ultimately, life insurance is the foundation of financial security because it allows you to ensure that the people you care most about will be taken care of, no matter what happens. Life insurance helps protect your family should something happen to you by providing cash to reduce financial anxiety during a time when they will be more preoccupied with grief. This cash can be used as a replacement for income you would have otherwise provided, paying for your kids’ college educations or ensuring taxes aren’t inherited along with an estate you plan on passing down.
There are two broad categories of life insurance. One is term life insurance, a type of temporary insurance that provides coverage for a specific period of time —otherwise known as a term (hence the name). Examples of uses for term life would be income replacement while you’re still earning an income or making sure your children can still be put through college if something happens to you. Term life insurance is best for young families, thanks to how affordable it may be, who want to make sure their loved ones can financially manage a major life transition in the event of an unforeseen tragedy.
Permanent life insurance — also known as whole life, variable universal life or universal life —provides coverage you can have for the rest of your life. This is important not only when it comes to making sure final costs and funeral expenses will be covered, but also by providing a cushion if you have a shortage in savings later in life, which makes it a great tool as part of your overall estate planning.
Permanent life insurance is more expensive, but offers more flexibility for households with more sophisticated financial plans.
When asked about the difference between the two types of insurance, USAA Advice Director Sean Scaturro summed it up this way: “Permanent life insurance is great to help cover your wants. Term life insurance helps cover your needs.”
Talk to an advisor. If you’re young and can’t afford a lot of health insurance, get term life insurance. Once you’re financially stable, you can explore permanent life insurance. Everyone’s situation is different, so consult a financial advisor or contact USAA Life Insurance Company to help determine what your needs are.
As soon as you can, because when you’re younger and healthy, you can lock in a premium at a much cheaper rate than when you’re older and may have more health issues, which makes you more expensive to insure. For example, military members with PTSD may face higher premiums if they get life insurance coverage after, not before, a diagnosis. So even if you’re young and have other financial priorities, like saving up for a car or building up an emergency fund, term life insurance is so affordable at this point in your life that you should add that to your priority list and take care of it while you can get a good deal. According to Scaturro, life insurance is simply forward thinking.
“Don’t avoid taking action because you’re confused by it or because it’s overwhelming,” he says, recommending that you treat life insurance like building blocks when first starting out. “It’s important to review it annually and increase your coverage as your financial needs call for it.”
Certain life events should prompt you to review what you have and make necessary adjustments to your plan, like an increase or decrease in coverage: marriage or a divorce, the birth of a child or transitioning into retirement. When you have children, you’ll want to make sure you have the right amount of coverage in place for yourself, but you’ll also want to consider getting coverage for them. Permanent life specifically makes a lot of sense for kids, because the rate will be so low at their age and they can have that coverage for the rest of their lives.
So you want to get life insurance as soon as possible and review your coverage annually and at certain benchmark points in your life. But how much life insurance is enough? How do you make that decision?
There are so many different “rules of thumb” to answer this question (such as seven to 10 times your income, for example), but here at USAA Life Insurance Company, we try to keep it simple. We use the acronym LIFE to help calculate your insurance needs:
L: Liabilities, or things for which you still owe money. You’ll want to add up any liabilities you may have, such as a mortgage, vehicle loans, credit card debt or private student loans. Adding coverage for these amounts ensures you aren’t saddling your surviving loved ones for paying off your debts after you’re gone.
I: Income replacement. Ask yourself how many years of your annual income you would want to continue providing your family if something happened to you. It may take a year or two for your surviving family to go through grief and adjust to a “new normal,” but what about after that? If your spouse is not already working, will it take longer for them to re-enter the workforce?
F: Final expenses. This includes funeral costs and fees of that nature.
E: Education. If you’ve got a couple of kids you want to provide with college education no matter what happens, add that amount to your total.
After you use the LIFE method to determine the right amount of life insurance coverage you should have for your situation, compare that to your current net worth – including cash savings and investments, current life insurance coverage or surviving spouse pay – and subtract that from your total for an accurate estimate.
¹This calculator is a self help tool. You should enter figures that reflect your individual situation. This information is provided for illustrative purposes only. The above life insurance needs estimate is based in part on the age and information you entered and results may vary depending on your individual circumstances.
USAA means United Services Automobile Association and its affiliates. Financial advice provided by USAA Financial Advisors, Inc. (FAI), a registered broker-dealer, USAA Investment Management Company (IMCO), a registered broker-dealer and investment adviser, and for insurance, USAA Financial Planning Services Insurance Agency, Inc. (known as USAA Financial Insurance Agency in California, License # OE36312). Investment products and services offered by IMCO and FAI. Life insurance and annuities provided by USAA Life Insurance Co., San Antonio, TX, and in NY by USAA Life Insurance Co of New York, Highland falls, NY. Other life and health insurance from select companies offered through USAA Life General Agency, Inc. (known in CA (license #0782231) and in NY as USAA Health and Life Insurance Agency). Banking products offered by USAA Federal Savings Bank and USAA Savings Bank, both FDIC insured. Trust services provided by USAA Federal Savings Bank.
Certified Financial Planner Board of Standards, Inc. owns the certification marks CFP® and CERTIFIED FINANCIAL PLANNER™ in the United States, which it awards to individuals who successfully complete the CFP Board’s initial and ongoing certification requirements.