Guide to choosing a life insurance policy
- What is life insurance?
- Why take out a life insurance policy?
- What types of life insurance policies are available?
- What is level term life insurance?
- What is decreasing term life insurance?
- What is whole-of-life insurance?
- Life insurance policies written in trust
- Life insurance with terminal illness or critical illness cover
- What considerations do you need to take into account when choosing life insurance?
What is life insurance?
Life insurance is a type of policy that provides a pay out to your loved ones if you die to help with the costs of bills, living costs or paying your mortgage. Depending on the type of life insurance you take out, your beneficiaries will either receive a lump sum or a regular income.
Life insurance that you take out yourself is separate from any employee benefits you might receive, such as group life insurance (also known as death in service).
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Why take out a life insurance policy?
Life insurance provides peace of mind for the policyholder, because, if they die within the term of the policy, the pay out will provide financial support to their loved ones.
People choose to buy a life insurance policy for many different reasons. These are just a few:
- Pay off a mortgage;
- Day-to-day living costs;
- Children’s education and university fees;
- Funeral costs.
What types of life insurance policies are available?
There are three main types of life insurance:
- Level term life insurance
- Decreasing term life insurance
- Whole-of-life insurance
What is level term life insurance?
A level term life insurance policy provides cover for a pre-agreed period of time. Premiums and the level of cover remain the same throughout the term (although some plans include the option to increase the cover during the term).
The premiums you pay are based on the amount of cover you choose and the length of your policy. Other factors are also taken into consideration. These include:
- Family medical history
Reasons for taking out a level term life insurance policy might include:
- Ensuring that a child can continue to attend a fee-paying school.
- Providing childcare so a widowed spouse can continue to work.
- Covering the bereaved family’s day-to-day living costs.
- Ensuring that a mortgage or other debt can be paid.
If you outlive the term of your policy there is no option cash value and the policy ends.
What is decreasing term life insurance?
Like level term life insurance, a decreasing term life insurance policy provides cover for a specified period of time.
However, in the case of a decreasing term policy, the cover gradually decreases during the term of the policy. This kind of policy is designed to cover repayment of a debt – typically a mortgage. As the debt decreases, so does the cover, until both reach zero value.
Safeguarding the family home is often one of the most important financial considerations when it comes to preparing for the unexpected death of an income provider. Due to its common use with mortgages, decreasing term life insurance is often referred to as mortgage protection insurance.
The premiums you pay for a decreasing term policy are fixed but are usually lower than the premiums for level term policies, making this type of life insurance a popular choice among people who want to protect loved ones from the hefty burden of a mortgage. If you die within the term of your policy, the pay out is designed to cover the amount you owe on your mortgage.
What is whole-of-life insurance?
Provided the conditions of the policy are met, whole-of-life insurance guarantees a pay out when the policy holder dies.
Premiums and the amount you are covered for are established when you take out the policy. The younger and healthier you are when you take out the policy, the lower your premiums will be.
Premiums for whole-of-life insurance are comparatively higher as the policy is assured, meaning that your beneficiaries are guaranteed a pay out when you die. The insurer’s risk lies in an early death, where the pay out exceeds the total value of premiums paid.
Life insurance policies written in trust
Life insurance pay outs form part of the policy holder’s estate, and any assets over the value of £325,000 are subject to inheritance tax at a rate of 40%.
Putting assets into a trust fund is a legal process whereby a settlor (the person who provides the assets) hands over ownership of the assets to a trustee (trusted individual or company), who will take control of the assets until they’re passed on to the settlor’s chosen beneficiaries. Assets in a trust fund are not legally the property of the settlor and are therefore not included in the estate.
Life insurance with terminal illness or critical illness cover
When you take out a life insurance policy some will include terminal illness cover, which allows you to take your payment, or a portion of it, on diagnosis of a terminal illness. The terms of the policy will specify the insurer’s definition of a terminal illness.
A lot of insurers offer critical illness cover which can be taken out in addition to the life insurance, for an increased premium.
Critical illness insurance pays a lump sum on diagnosis of a qualifying medical condition. Each insurer has their own list of qualifying illnesses, so it’s important to be aware of what conditions are covered by your policy. Typically, conditions such as heart attack, stroke, cancer, Parkinson’s disease, multiple sclerosis, and loss of a limb are covered by a critical illness policy.
What considerations do you need to take into account when choosing life insurance?
When choosing life insurance, you first need to establish your primary purpose; why do you want life insurance?
- Do you want to ensure that your family aren’t left with the burden of a mortgage?
- Do you have other debts?
- Are you the main income earner and want to provide money to cover living costs?
- Do you want to provide a financial gift to your loved ones?
- Do you want to be able to take a pay out if you’re diagnosed with a critical illness?
Secondly, you need to work out what you can afford.
- Decreasing term insurance usually has the lowest premiums, but you will need to be sure that this is the type of insurance you need. Decreasing term would normally be used to cover the cost of any debts and mortgage and wouldn’t provide your family with an income to live off.
- You’ll need to make sure that you can commit to your life insurance payments for the duration of the policy to avoid it lapsing. In most cases, if a policy is cancelled or lapses then you will lose the money you have paid in premiums.
- It is advisable to regularly revisit your policy to check that it is still right for you. For example, if you have paid off a significant debt then you may not need the same level of cover as when you took the policy out. Equally if your financial dependants change, if you have another child for example, you may want to increase your cover.
- You’ll also need to assess what cover you need in tandem with any employee benefits you receive. Employee benefits like death in service or group life insurance should not be considered a replacement for your own life insurance policy, but if you know that you would get a certain amount from a death in service pay out then you can adjust how much you would want to be covered for under your own policy accordingly. This would need to be revisited if you changed employer and were no longer in receipt of these benefits.
Helping you to choose the right life insurance for you
Getting professional advice on your protection policies and financial circumstances can help to ensure that your loved ones are provided for if you pass away. For expert advice on life insurance, contact Alan Boswell Group on 01603 967967.
Levels of taxation depend on your individual circumstances and the laws concerning these can change.