When it comes to anything personal finance related, including life insurance advice, you’ll find no shortage of helpful souls with opinions. When it comes to life insurance, much of this advice is well-meaning but bad. And some of this advice is good.
But how do you know the difference?
Most of us don’t have a robust education in personal finance matters. It’s great to rely on competent professionals, but never forget that insurance agents work on commission. This doesn’t imply that all insurance agents are dishonest.
But you should still educate yourself as much as possible to avoid being taken advantage. Large investments in financial products like life insurance demand due diligence on your part–no one is going to treat your money like you would.
Below, I’ve included both the best and worst advice I’ve ever heard about life insurance.
Here’s some of the worst life insurance advice I’ve heard:
Cash value and whole life insurance policies combine an investment vehicle with an insurance policy. The problem with this is that it’s usually better to keep financial instruments separate.
Most people can and will earn a better return on their money if they invest it themselves. You don’t need to be Warren Buffett to invest your money intelligently and earn a better return than what you’d see with a cash value or whole life policy.
Just invest in an index fund. That’s a mutual fund that requires no management, because it’s just a basket of stocks in the same proportions you’d see if you invested in a major index. The S&P 500 is an example of an index you might see in an index fund.
You’ll see returns that mirror those of the stock market as a whole. Over time, the stock market has returned 7% historically.
The truth is, the state of your health is going to make a difference in the availability and cost of coverage. It’s hard to make changes to your lifestyle to become healthier.
But it’s worth it for multiple reasons.
The better your state of health, the less expensive your insurance will be. Better yet, the healthier you are, the less likely you are to have to cash in your policy for a long time.
Who doesn’t want to live a long and healthy life?
Quit smoking. Get some exercise. Maintain a healthy body weight.
Your health matters, and so does that medical exam.
That being said, you can find policies that require no medical exam.
The problem with life insurance advice like this is that it’s a one-size-fits-all solution. Your circumstances determine how much life insurance you need.
Does your spouse work for a living?
You’ll need less life insurance than if she’s a stay-at-home mom.
Is your mortgage is paid off?
You’ll need less life insurance than if it isn’t.
Do you have children you want to put through college?
You’ll need more life insurance than if you don’t.
If you have no dependents, you might only need enough coverage to pay for your burial. If you’re very wealthy, you might already be self-insured.
Any kind of life insurance advice that doesn’t look at your specific circumstances is bad advice.
At first glance, this seems like good advice.
After all, you shop around for all your other major purchases, don’t you?
The problem with dealing with multiple life insurance agents is that you’ll inevitably wind up comparing apples to oranges. Unless you’re financially sophisticated, you might miss out on subtle distinctions between one policy and another.
The ideal situation is to find a single agent who deals with a lot of different companies. He can then present your options to you and explain the differences.
The idea behind buying a short-term policy is to get a better price. The assumption is that you’ll be able to renew at the same or at a similar price when the term expires.
This piece of advice has the same problem that many other nuggets of so-called wisdom have–it makes a generalization and an assumption. There’s no substitute for consulting with a competent professional who understands the options available.
When you buy a short-term policy and renew, your circumstances might change dramatically. Your new policy might be correspondingly hard to afford.
This makes sense on the surface, but it fails the sniff test when you examine the premise more closely. Funeral costs average $10,000 these days. Your family has to foot the bill for that in the event of your death.
Also, if you have financial obligations, your family could get stuck with them. You might need less life insurance in this situation.
But saying you don’t need life insurance at all because you’re single and childless is an irresponsible generalization.
Just because a salesperson is on commission doesn’t make them dishonest. You’ll do well to educate yourself and perform some due diligence when making decisions about life insurance.
But most of the agents I’ve met in the industry have their clients’ best interests at heart. Find an agent with a good reputation. Ask friends you trust for referrals. Then put your faith in your agent while simultaneously looking out for your own best interests.
Here’s some of the best life insurance advice I’ve heard. (Yes, you’ll notice that in some instances, the best advice is just the opposite of the worst advice.)
Term life insurance is a lot more affordable than whole or cash value policies. You can (and should) take the money you save by buying the cheaper policy and invest it.
In fact, if you’re not going to invest the difference, you might as well just buy the whole or cash value policy.
But you’ll almost certainly see a better long-term return on your money by investing it yourself.
Some financial advisers recommend various mutual funds for this purpose. I’m convinced that for most investors, an investment in an index fund is a better bet. Even if the managed mutual fund sees a higher return than the index fund, the fees to the managers often eat up enough of that return to make your returns less than an index fund.
If your children are under 18, they can’t get the money from your life insurance policy. The funds could be tied up for years.
But if you’re divorced and don’t want your former spouse to get the money from your insurance policy, you should be able to set up a trust for your children.
A competent financial adviser can either explain how to do this or refer you to someone who can help you get this set up. You can also read about setting up such a trust online.
You don’t need multiple agents to compare products. Just find an agent who shops multiple companies for the best rates on your behalf. Many insurance agents can access policies and rates from dozens of different companies.
Most importantly, avoid dealing with a single agent who represents a single company. You’ll have a hard time getting a better rate from an agent in that position.
Also, no matter who you’re dealing with, it’s okay to ask about options for a better rate. While insurance rates are fixed, there are lots of variables that can bring the price down while still getting you what you need.
If you’re permanently injured and unable to make a living, a policy with living benefits can replace that income. “Critical illness” coverage and “terminal illness” cover are examples of policies with living benefits. Those are just two examples.
These benefits are considered “riders”. In other words, they’re additional coverage benefits on top of your main benefits. These types of policies cost more, but depending on your specific circumstances, they might be worth it.
If you don’t understand what the words your agent is using, you’re going to have trouble making a sensible decision. It’s in your best interest to have definitions of some of this jargon available.
If you don’t know the difference between a whole policy and a term policy, read the definitions before making a decision.
For example, many people aren’t familiar with the expression “decreasing life insurance”. That’s a policy where one of your goals is to pay off your mortgage in the event of your death. Since the size of your mortgage decreases over time, a decreasing policy reduces the size of your benefit over time in proportion to that. As a result, you pay less for the policy.
I have a future post planned where I define some of the terms you might run into.
This advice isn’t true for most of my readers.
But it’s true for some people.
What type of person needs no life insurance?
If you’re independently wealthy with no debt to speak of, you’re self-insured. Bill Gates, for example, doesn’t need life insurance. He has so much money that his heirs will have no need to replace his income or worry about burial costs. In fact, he’s so wealthy that he probably couldn’t buy enough insurance to replace his massive income anyway.
Most people don’t fit this description, but you might come close.
Maybe you don’t think you can pass a medical exam. Maybe you smoke marijuana, and you think that eliminates you from contention as a potential customer. You might have a felony conviction. Yes, all these circumstances make getting life insurance harder. But don’t count yourself out. You can probably still get a policy, even if you might have to pay a little more money for it than you were hoping.
Life insurance can be complicated. You’ll hear lots of advice–good and bad–on the subject.
Some of this life insurance advice comes from well-meaning friends and family members. Some of this life insurance advice comes from people with a financial interest in whether you follow their suggestions.
A little education and due diligence go a long way toward helping you make a sensible decision about your family’s future.
These examples of the worst and best life insurance advice illustrate the importance of learning about what you’re buying before sinking money into it.
Do you have an opinion about the advice presented here, good or bad?
I’d love to hear it. Leave a note in the comments.