Who should have life insurance?

If there are individuals who depend on you for financial support, or if you work at home providing your family with such services as child care, cooking, and cleaning, you need life insurance. Older couples also may need life insurance to protect a surviving spouse against the possibility of the couple's retirement savings being depleted by unexpected medical expenses.

Six different strategies: match your choice to your needs

Term insurance is the most basic, and generally least expensive, form of life insurance for people under age 50. A term policy is written for a specific period of time, typically 1 to 10 years, and may be renewable at the end of each term. As you get older, the premiums tend to increase each time you renew. A level term policy locks in the annual premium for periods of up to 40 years, depending on the insured's age.

Declining Balance Term insurance, a variation on this theme, is often used as mortgage insurance since it can be written to match the amortization of your mortgage principal. While the premium stays constant over the term, the face value steadily declines. Once the mortgage is paid off, the insurance is no longer needed and the policy expires.

Unlike many other policies, term insurance has no cash value. In this sense it is "pure" insurance without any cash value component. Benefits are paid only if you die during the policy's term. After the term ends, your coverage expires unless you choose to renew. When buying term insurance, you might look for a policy that is renewable up to an age when you think you will no longer need insurance and convertible to permanent insurance without a medical exam.

Return of Premium Term insurance will repay you the amount you spent in premiums in the event you outlive the term of the policy. Whether you die while the policy is in effect or outlive the policy, the money you put in will be distributed to your beneficiaries or to you, respectively.

Whole Life insurance combines permanent protection with a cash value accumulation component. As long as you continue to pay the premiums, you are able to lock in coverage at a level premium rate. Part of that premium accrues as cash value. As the policy gains value, you may be able to borrow up to 90% of your policy's cash value tax-free. Outstanding loans accrue interest, reduce the policy's death benefit, and increase the chance that the policy will lapse.

Universal Life policies are also highly flexible in regard to premiums and face value. Premiums can be increased, decreased, or deferred within certain limits, and cash values can be withdrawn, although this will decrease the policy's death benefit. You may also have the option to change face values. Universal life policies typically offer a guaranteed rate on cash value, which may vary, depending on the policy provisions. You'll receive an annual statement that details cash value, total protection, cash value accumulation, and fees.

Variable Life insurance generally offers fixed premiums and a variety of investment options. Your cash value is invested in your choice of stock, bond, or money market portfolios.* Cash values and death benefits can rise and fall based on the performance of your investment choices.

Although death benefits usually have a floor, there is generally no guarantee on cash values. Fees for these policies may be higher than for universal life, and investment options can be volatile. On the plus side, any cash value accumulation accrues tax-deferred as long as the funds remain invested in the insurance contract. (Withdrawals and loans against a policy's cash value will reduce policy values and death benefits, increase the chance that the policy will lapse, and may trigger tax consequences.)

*An investment in a money market portfolio is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although the portfolio seeks to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in the portfolio.

Universal Variable Life insurance combines flexible premiums and choice of investment options. Like variable life, you select investment options in your portfolio. As with any financial product that carries an investment element, this kind of contract's flexibility and upside potential growth carries corresponding risk.

How much insurance do you need?

There are several decisions to make. A popular approach to buying insurance is based on income replacement. In this approach, a formula of between 5 and 10 times your annual salary is often used to calculate how much coverage you need. Another approach is to purchase insurance based on your individual needs and preferences. The first step is to determine your unique income replacement needs as they may vary greatly depending upon your age.

Currently, a large portion of your income goes to taxes (insurance benefits are generally income tax-free) and to support your own lifestyle. Start by determining your net earnings after taxes. Then add up all your personal expenses such as food, clothing, magazine subscriptions, club memberships, transportation expenses, etc. Subtract this from your net after-tax earnings – the remainder represents annual income that your insurance may need to replace.

You'll want a death benefit amount, which, when invested, will provide income annually to cover this amount. Then, you might add to that face value amounts needed to fund one-time expenses such as college tuition for your children or paying down debt.

Income replacement for nonworking spouses is an important and often overlooked insurance need. Coverage should provide for your costs for day care, housekeeping, or nursing care. Add to this any net earnings from part-time employment.

Finally, estimate your own "final expenses" such as estate taxes, uninsured medical costs, and funeral costs. A financial professional can help you estimate your life insurance needs by completing a life insurance needs analysis.

A critical choice that may affect your family for generations

Life insurance is an important component of a sound financial plan. It contains exclusions, limitations, reductions of benefits, and terms for keeping it in force. Its purchase involves asking a variety of personal lifestyle and financial questions. A qualified financial professional can help you sort through these issues and help you find the policy that is most appropriate for your situation and can provide costs and complete details of coverage.

Points to remember

1. Term insurance is basic, generally inexpensive coverage with premiums that increase over time and no cash value component.
2. Consider a term policy that is renewable and convertible to whole life should your needs change.
3. Whole life provides level coverage with level premiums. A portion of those premiums goes into tax-deferred cash value accumulation.
4. Variable life offers control over how the money in your policy is invested, but cash values will fluctuate.
5. Premiums on variable policies may be fixed, but face value and your cash value will fluctuate. Variable Universal Life is similar to the
6. Variable Life policy, but offers flexible premiums instead of fixed premiums.
7. Insurance needs are based on income replacement needs and personal preferences.