Life insurance is one of the cornerstones of a sound financial plan. All other financial planning can be for naught without the foundation of having adequate life insurance in place in the event of a premature death.
Life insurance can help ensure that everyday living expenses are covered, from the mortgage to car loans, credit card bills and outstanding debts, to future costs such as tuition. Business owners need life insurance to help protect the business from a premature death; the tax-free funds can be used to buy the business from the deceased partner’s estate/wife, or provide a cushion to give the survivor time to decide what to do next.
What Type of Life Insurance is Best?
There are two basic categories of life insurance: term and permanent. The primary difference is that term insurance is pure insurance. It pays only if death occurs during the specified term of the policy, typically 10, 15, 20, years. Term insurance is designed for temporary needs, such as mortgage protection. Premiums are inexpensively priced for the original term of the contract, but typically increase by as much as five times at the policy renewal and eventually expire by ages 75 to 85 depending on insurer. Term insurance is also generally convertible to permanent insurance. Permanent insurance policies, such as whole life/universal life, are just that — permanent. They are designed for permanent needs such as final expenses and can even accrue tax-deferred cash value over the insured’s life and perform more as investment instruments than as pure insurance. This generally makes them more expensive, since they charge a level premium for life or can allow for a compressed time period.
Parents with young children and a limited budget might start with a term policy of 10 or 20 years — long enough to keep their children safe until they are independent — or until greater family wealth is built up over time. If the family still needs life insurance at the end of that term, they can renew it or convert to a permanent type of insurance product. Looking at long-term needs — Permanent life insurance protection is the way to go, plus it gives you the opportunity for tax-deferred growth in savings. It’s designed for people who want security, diversified investment opportunities, guarantees and greater flexibility; that allows you to customize your policy at issue and adjust it as your needs change.
The first type of permanent coverage is universal life (UL); it offers two key financial planning tools in one product. It provides permanent life insurance protection to meet your long-term needs, while allowing for tax-deferred growth in savings.
Unlike other types of permanent insurance, UL is quite flexible and can change; that means you’re in control of your policy. You can change your beneficiary, payment amount, your investments and, you can also withdraw cash or take an advance in the form of a policy loan. You can choose from two types of cost of insurance; level cost of insurance (LCOI) or yearly renewable term (YRT).
Cost of Insurance
Cost of insurance (COI) is the total cost to insure an individual and is based on factors like age, health, smoking status, policy insurance amount and benefits selected.
When you buy this type of policy, you’re making an important financial decision. Whether you want extra retirement income, or have money available to pay estate taxes, or increase your estate value, choosing the right mix of investment account options is a key part of designing your policy to meet your needs and goals. Your asset mix should take into consideration your performance expectations, investment objectives, the amount of time you have to reach your goals and above all, you need to determine the level of risk you are prepared to accept.
Policy Performance
Most Canadian life insurance companies have a universal life on their product shelf. UL is a hands-on type of Life Insurance.
The following can affect policy performance:
• Type of investment account(s) you select
• Rate of return achieved from the investments
• Timing/amount of payments and withdrawals
• Federal tax legislation
• Provincial premium taxes
• Investment bonus or no investment bonus
• Cost of insurance
Think of your policy as a bank account; you deposit money on a regular basis and earn interest and bonuses. Instead of paying your bills, money goes out to pay for the cost of insurance (policy payments). The amount of money left after the monthly charges is the fund value of your policy.
If your payments plus investment account interest exceed the maximum allowable tax-exempt limit set by the Canada Revenue Agency, the excess funds may be refunded in cash or will overflow into a side account. Money outside of the policy is taxable. It will be automatically redirected into your investment accounts, as soon as there is sufficient tax-exempt room.
As I said, the cost of insurance is based on several factors; there are two COI options: The first and most common is a guaranteed level COI, as the cost is fixed and based on the age of the insured person at the time the coverage is issued. The COI remains level throughout the life of the coverage. It costs more than yearly renewable term in the early years, but tends to have a lower overall cost.
Guaranteed yearly renewable term COI; cost changes each year, in tandem with the life insured’s age. Rates guaranteed when policy is issued and do not change unless you alter your policy. A reason for choosing this COI in the early years is because it allows more of your payments to go to the policy fund and therefore, it increases the potential for higher compounded, tax-deferred growth You have the flexibility to switch to guaranteed level COI, without evidence of insurability, with new rates based on the insured person’s attained age at the time of change
Another type of permanent life insurance is called whole life (WL). There are two basic types participating and non-participating. Just like UL, WL gives you lifetime insurance protection, knowing that money will be available to provide for your family, continue your business or ensure that your assets transfer as per your wishes to the next generation.
Participating WL Insurance
Offers a completely hands-off management for you, when you purchase a participating life insurance policy, you have the opportunity to participate in any policy holder dividends. Your policy comes with guaranteed lifetime protection and cash values, for which you pay a guaranteed premium. Your premium and other basic values are determined using long term conservative assumptions.
Non-Participating Whole Life
Once again this offers a completely hands off management on your part, while the policy is non-participating and doesn’t receive dividends, it will automatically earn a yearly performance amount on each anniversary that helps increase the policy’s cash value. You even have the choice on how you want to apply the amount to your policy.
What is a Guaranteed Premium?
Guaranteed premium: The premium payable is based on several factors, including the guaranteed death benefit, your age, gender smoking status and any additional benefits you may choose to add to your policy. You have the security of knowing that the premium schedule in your policy is guaranteed not to change.
There are generally four different types of death benefit options. You can change options, however, if the insurance amount is increased, additional evidence of insurability may be required. Universal life policies death benefit types are: level face; face plus; account value on each death; account value at last death claim. Whole Life Products — death benefit option is basically the following:
The death benefit is based on the total coverage of each of its components: the insurance coverage, plus any paid-up insurance, plus any deposit option insurance, plus any yearly term insurance. (Contract always provides a full description specific to the policy). Most companies have several value-added benefits at no additional cost to you: Early death benefit or compassionate benefit — provides tax-free access to the policy value to assist with financial needs. Survivor benefit- this benefit is available to survivors for approximately 31 days while they determine whether to buy a new policy.
Living benefit — a compassionate response to a client’s terminal illness — if the insured person has a terminal illness and has less than 12 months to live, this benefit provides a lump-sum loan payment of 50% of the policy face amount (up to $100,00) to use as needed.
Different Types of Coverage:
• Single life coverage insures one life and pays a tax-free benefit upon the death of the person.
• Multiple life coverage provides insurance for more than one person in a policy, allowing you to conveniently address the needs of your entire family or business.
• Joint life insures two or more people under one coverage. Depending on the type of joint coverage you choose, one tax-free benefit is paid out either on a first- or last-to-die basis.
• Joint first-to-die coverage is an excellent solution for couples who want to make sure their family will be taken care of if one of them dies. It can also be a great solution in a business situation where the surviving partners need money to purchase the deceased partner’s interest in the business, or to pay off your mortgage.
• Joint last-to-die coverage insures two people and on the second death, a tax-free death benefit is paid to the beneficiary. It can be a great solution for paying capital gains taxes when family assets are being transferred to the next generation.
Please remember insurance costs less and is easier to qualify for when you’re younger and healthy — so don’t wait!