Purposes of Having Life Insurance
While there are many different types of life insurance products, they all serve a similar purpose: financial protection for your family. There are products available that simply pay a death benefit for bill and expenses. Others provide funds for retirement, college education and other needs for your family if you die. Still other products simplify the process of providing a bequest, buying or selling a business or protecting assets. Identifying individual needs begins with a basic knowledge of the many uses of life insurance.
The primary purpose of life insurance is to provide funding for the person’s final expenses. Such expenses may include medical bills arising from terminal illness; funeral and burial costs; payment of debts; payment of estate and final income taxes; and the creation of an emergency fund to cover immediate necessities incurred while survivors readjust to life without the deceased.
Any estate taxes owed to the government following a person’s death must be paid in a timely fashion, and in cash. Often estates, particularly if largely composed of assets such as land or investments, lack the necessary amounts of cash. As a result, an estate facing looming tax deadlines may have little choice but to sell property or liquidate investments at significantly reduced “forced-sale” values. Life insurance, in sufficient quantity, can provide the necessary cash when needed most.
INCOME NEEDS OF FAMILY
Life insurance can provide sufficient income so family members can continue their lives with as little financial disruption as possible – such as child continuing his or her current college eduction. The amount of insurance should allow adequate family income to continue until the youngest child is self-supporting. If desired, an amount can be established to provide income to a surviving spouse or other dependent relatives (such as aged parents) after the children are grown.
This type of policy will pay off the mortgage on a house, relieving the surviving dependents from the burden of making monthly payments which may increase if the mortgage is subject to interest and/or payment adjustments over time.
A life insurance policy on a parent’s life may also be used to pay for a child or children’s college expenses if the parent dies. If the policy is one with cash value (e.g., Whole, Universal or Variable Life) and the parent lives, he or she can finance college expenses from current income or savings, using the loan or cash value available form the life insurance policy to help.
If purchasing life insurance with cash value, a person can realize significant financial benefits from the policy while alive. For example, if the policyholder encounters a financial emergency, the loan provision can be used. Or, if necessary, the policy can be turned in for its cash-surrender value.
LIFE INSURANCE TO PROVIDE A BEQUEST
A person may have a desire to leave a sum of money to an individual or institution but may not have the funds or property for that purpose. One option is to purchase a life insurance policy for the desired amount, naming the individual or institution as beneficiary. In the case of the individual, the policy can also be arranged so that the proceeds will be paid as regular income rather than a lump-sum death benefit.
RETIREMENT INCOME PLANS
There are many types of life insurance policies designed to create retirement income. When coordinated with Social Security retirement benefits, these policies can provide a substantial retirement income at a very reasonable cost.
TO PROTECT CREDITORS
Life insurance is used extensively as collateral for business loans. A policy on the borrower’s life can be assigned to the creditor, who is then protected against the possibility that the borrower might die before paying the debt in full.
BUSINESS INSURANCE – PROPRIETORSHIP
Due to the death of the proprietor, the company’s assets may, to a large extent, be lost through the forced sale of the business. To prevent this, a Sale and Purchase Agreement, financed by life insurance, may be used. The Sale and Purchase Agreement is a written contract between the owner and the purchaser (a valued employee or other person) for the firm’s transfer in the event the owner dies. It stipulate the price to be paid or a formula for arriving at a fair value. To guarantee that the purchaser has sufficient funds to complete the agreement or at least make a reasonable down payment, he or she can purchase life insurance on the life of the owner. The proceeds of the life insurance are paid to the purchaser and, as per the agreement, this money is paid to the executor of the estate in return for the business.
BUSINESS INSURANCE – PARTNERSHIP
If a partner dies, the surviving partner often is unable to purchase the deceased partner’s equity. As a result, the business must be sold or the partner must continue in business with teh deceased partner’s spouse as a partner. Even if the spouse has no interest in being active in the business, the financial need to keep the business income flowing may offer no other option. To avoid this situation or at least preserve all the business-continuation options available, the firm or the partners buy life insurance on the lives of the individual partners. The proceeds are paid either to the surviving partner or to the partnership and are used to purchase the interest of the deceased partner according to the agreement. With this arrangement, the business can continue, the surviving partner obtains additional equity in the firm, and the deceased partners’ heirs receive their rightful compensation.
BUSINESS INSURANCE – SMALL CORPORATION
Each stockholder of a corporation carries sufficient life insurance on the other stockholders to provide cash to purchase the stock of the deceased business associate. Again, this plan provides for a guaranteed market, a fair price for the deceased’s heirs, full ownership for the survivors, as well as the money to execute the plan.
BUSINESS INSURANCE – KEY MAN
Many times, life insurance is carried by businesses on the lives of important executives or others, naming the business as beneficiary. Money obtained upon the death or disability of the insured is used to help the business through an adjustment period until a suitable replacement can be found.
In addition to providing cash to help the company over an unsettled period, a cash-value policy may provide funds for an emergency reserve, strengthen credit and provide collateral for loans. These proceeds also can be used, if not otherwise needed, to provide or supplement a retirement program for the employee, redeem the deceased’s corporate stock or continue the salary to the deceased’s spouse.
PRACTICAL SUGGESTIONS FOR LIFE INSURANCE POLICYHOLDERS
Keep your policies in a safe place. Generally, this does not mean a safe deposit box, because should you die, the box can only be opened by a court order. It is better to find a safe place at home. Let the person who will settle your affairs know where your policies are and who your insurance agent is. Should you lose your policies, or if they are destroyed by fire or other property loss, ask your life insurance company to issue duplicates. It is easier to do this if you keep a separate record of the policy numbers.
Discuss your life insurance program with your family and other dependents. You are buying life insurance for their protection; it’s important that they know how your program is planned. Better still, have them share in your planning from the beginning and in each addition or change to the program.
Because your individual situation often changes, sit down with your agent to review your life insurance program at least every two years. Are the right beneficiaries named? Are new children taken care of? Is the selected income arrangement still the best choice? This review is a service your insurance agent should render without charge or obligation. Don’t hesitate to ask for help.