Accessing Your Life Insurance: A Simple Guide

Life insurance is an important financial tool that provides peace of mind and financial security for individuals and their loved ones. It is a contract between the policyholder and an insurance company, offering a death benefit when the insured person passes away. Understanding how to access this benefit is crucial, especially for the beneficiaries. There are two main types of life insurance: term and permanent. Term life insurance provides coverage for a set period, often 20 or 30 years, and is generally more affordable. On the other hand, permanent life insurance offers lifelong coverage as long as premiums are paid and includes a cash value component that can be accessed while the insured is alive. This cash value grows over time and can be utilised through withdrawals, loans, or surrendering the policy. However, accessing the cash value reduces the death benefit, so it's important to consider the impact on future payouts. Additionally, the process of claiming life insurance benefits involves contacting the insurance company, filing a claim, and providing necessary documentation, such as the policy and a certified copy of the death certificate.

Term vs. permanent life insurance

Term life insurance and permanent life insurance are the two main types of life insurance policies. Both types aim to protect the financial well-being of your loved ones in the event of your death. However, they differ in terms of length of coverage, benefits offered, and premium structures.

Term Life Insurance

Term life insurance provides temporary coverage for a specific period, typically between one and 30 years, or until a certain age. It is generally more affordable than permanent life insurance, making it a good option for those seeking short-term coverage or working within a tight budget. Term life insurance policies do not carry a cash value, meaning there is no savings component, and the premiums paid are not refunded if the insured person survives the coverage term. However, some term policies offer the option to convert to a permanent life insurance policy after the term ends, without the need for a medical exam.

Permanent Life Insurance

Permanent life insurance, on the other hand, provides lifelong coverage as long as the premium payments are maintained. It is more expensive but offers the advantage of a cash value component that grows tax-deferred over time. This cash value can be accessed or borrowed against while the insured is still alive, providing financial flexibility. However, withdrawing or borrowing from the policy reduces the death benefit if those funds are not repaid. Permanent life insurance policies also guarantee death benefits regardless of when the insured person dies.

Choosing the Right Coverage

When deciding between term and permanent life insurance, it's important to consider your unique circumstances, including your assets, the needs of your loved ones, and your budget. Term life insurance is ideal for short-term needs or additional protection during specific periods, while permanent life insurance offers long-term financial protection and the ability to build an inheritance for heirs. Additionally, permanent life insurance provides stable premiums and a tax-advantaged way to save for future expenses.

Choosing a beneficiary

• Insurable interest: The beneficiary must have an insurable interest in your life, meaning they have more to lose than gain by your death, financially or otherwise. This could include a spouse, dependent children, or other family members who rely on your financial support.
• Age: Consider whether the beneficiary is under the age of 18, as many insurance companies will not pay benefits to minors. In this case, you may need to create a trust and appoint a trustee to manage the funds until the child reaches the age of majority.
• Ability to manage money: If your chosen beneficiary is not financially savvy, you may want to establish a trust and appoint a trustee to invest and disburse funds on their behalf.
• Contingency: It is a good idea to name a secondary or contingent beneficiary. This person will receive the death benefit if the primary beneficiary dies before you.
• State or policy rules: Some states or insurance companies may restrict who you can name as a beneficiary. Consult an attorney or tax advisor to ensure you are compliant with any specific regulations.
• Review and update: Remember to review and update your beneficiary designations periodically, especially after major life events such as marriage, divorce, the birth of a child, or the death of a beneficiary.

When choosing a beneficiary, you can select a single beneficiary or multiple beneficiaries, outlining the percentage of the policy payout each will receive. You can also name a contingent beneficiary, who will receive the death benefit if something happens to the primary beneficiary. It is important to be as specific as possible when designating a beneficiary, including their full name, Social Security number, relationship to you, date of birth, and address.

Some common scenarios when selecting a beneficiary include:

• Married with children: In this case, most people name their spouse as the primary beneficiary, with parents or guardians as contingent beneficiaries.
• Married without children: Here, the partner is usually the primary beneficiary, with a parent or other family member as the contingent beneficiary.
• Single parent: If you are a single parent, you may consider naming your child as the beneficiary. However, note that life insurance companies cannot pay out a policy to a minor. You will need to appoint a legal guardian or set up a trust to manage the funds until your child reaches the age of majority.
• Single with no children: If you have financial obligations to family members, such as cosigning on loans or mortgages, you may want to name them as beneficiaries to help them shoulder the financial burden in your absence.

Remember, choosing a beneficiary is a personal decision that depends on your unique circumstances. The key is to ensure that your loved ones are financially protected and provided for, even after your death.

When benefits are paid

Life insurance benefits are typically paid out when the insured party dies. The beneficiary must file a death claim with the insurance company, along with a certified copy of the death certificate. The insurance company will then review the claim, after which they can pay it out, deny it, or ask for additional information.

Most insurance companies pay within 30 to 60 days of the date of the claim. However, there is no set time frame, and payments may be delayed in certain situations. For example, beneficiaries may face delays of six to 12 months if the insured dies within the first two years of the policy due to the one- to two-year contestability clause, which allows the insurance carrier to investigate the original application to ensure fraud was not committed.

Payments may also be delayed if homicide is listed on the insured's death certificate, as the insurance company will need to rule out the beneficiary's involvement in the insured's death. Delays may also occur if the insured died during the course of illegal activity, lied on the policy application, or omitted relevant health issues or risky activities.

It is important to note that death benefits are not paid out automatically. The beneficiary must initiate the claims process by contacting the insurance company and submitting the required documentation.

Borrowing from your policy

Borrowing from your life insurance policy can be a quick and easy way to get cash in hand when you need it. However, it is important to understand the specifics before borrowing.

Types of Policies

Firstly, it is important to note that you can only borrow against a permanent life insurance policy, such as a whole life insurance or universal life insurance policy. Term life insurance, which is cheaper and more suitable for many people, does not have a cash value and is designed to last for a limited period, generally anywhere from one to 30 years. In some cases, a term life policy can be converted into a permanent policy, which allows for the accumulation of cash value.

Borrowing Conditions

The amount you can borrow depends on the cash value of your policy. Each insurance company will have different rules, but generally, you can borrow up to 90% of its cash value. It is important to note that it may take several years for your policy to build up enough cash value to borrow against.

Pros of Borrowing from Your Policy

Borrowing from your life insurance policy offers several advantages. It provides quick access to cash without the need for a credit check or approval process. There are also no restrictions on how you can spend the money. Additionally, policy loans do not affect your credit score and are not recognised by the IRS as income, making them tax-free.

Cons of Borrowing from Your Policy

However, there are also some disadvantages to consider. Borrowing from your life insurance policy can reduce the death benefit if not paid off, and interest will be added to the loan balance, which can cause the policy to lapse if left unpaid. This may result in owing taxes on the borrowed amount. Borrowing can also slow down the growth of your cash value and reduce the amount available for other policy perks.

How much cover you need

When it comes to life insurance, there is no one-size-fits-all approach. The amount of cover you need depends on various factors, and it's important to consider your unique circumstances when making this decision. Here are some key points to help you determine how much life insurance cover you need:

• Income Replacement: Life insurance is designed to replace your income if you pass away, ensuring your family is financially secure. A common approach is to multiply your current income by the number of years until your retirement and then multiply that amount by 0.66. This calculation provides a starting point for how much cover you may need.
• Family Situation: Consider whether you want to provide a lump sum to your spouse or a monthly income to cover their expenses. If you have children, calculate the number of years until they become financially independent. You can use their ages and your current salary to estimate the cover needed to support them until they reach adulthood.
• Debts and Expenses: Take into account any debts, such as a mortgage, credit card debt, or student loans, that would need to be covered in the event of your death. Additionally, factor in any future expenses, such as your children's college tuition, to ensure that your loved ones have the financial resources they need.
• Existing Assets: When determining how much life insurance you need, don't forget to consider your existing assets. These can include savings, investments, and any other life insurance policies you may have. Subtract these assets from your total financial obligations to get a more accurate estimate of the additional cover required.
• Life Insurance Calculator: Utilize online life insurance calculators to get a more precise idea of the coverage amount you need. These calculators take into account various factors, including income, debts, family situation, and future expenses, to provide a personalized recommendation.
• Term Life vs. Permanent Life: Decide whether you want a term life policy, which is typically more affordable, or a permanent life policy, which lasts for your entire life and often includes a cash value component. Your decision will depend on your budget, age, and long-term financial goals.

Remember, there is no one-size-fits-all answer, and it's crucial to tailor your life insurance coverage to your specific needs and circumstances. Review your financial situation, consider your family's needs, and seek advice from a financial advisor if needed to make an informed decision about the level of cover that's right for you.

Frequently asked questions