Life Insurance Guide
What will happen to your loved ones after you die? Will they be able to support themselves? Can your spouse manage the mortgage payments and ensure your children are able to attend university?
Arranging life assurance cover is the best way to ensure your family is taken care of in the event of your death, giving both you and them peace of mind.
Many of us are superstitious about planning for after our death, believing it to be a morbid topic and one that might even hasten the inevitable. But knowing you have a comprehensive life assurance programme in place will provide peace of mind for both you and your loved ones.
Life assurance, put simply, is a policy provided by an insurance company that pays your family either a lump sum or a series of smaller sums in the event of your death. Policies vary widely; some may guarantee a payout, others expire after a certain period of time. Some have premiums and payouts set in stone, while others offer more flexibility.
There are many factors to consider when choosing a life assurance policy. What sort of cover do you need? How much cover should you arrange? Do you need basic life assurance or more extensive critical illness cover, and what about tax?
As a financial data comparison site, Moneynet.co.uk can direct you to the best life assurance deals to meet your needs. The internet makes it easy to shop around to find the best deals, but you need to ensure that a deal really suits you and your family.
How much cover do I need?
The first step is to establish how much cover you will need, and for what purpose. Will your family need full financial support after you die? Do you wish to arrange for your mortgage to be paid off, or your children’s university education be paid for? Perhaps you wish to ensure your business partner can survive the upheaval caused by your death.
Reasons for arranging cover could include:
- Mortgage repayments – level term policies, recommended for interest-only mortgages, offer fixed premiums over a fixed period of time and payment upon claim. Lower premiums are available with a decreasing term policy, where the amount of cover reduces over the term of the policy in line with the amount owing on a repayment mortgage.
- Replacing the primary earner’s salary – ensuring the family does not fall upon hard times in the event of the primary breadwinner’s death – is often the main reason for arranging life assurance. The amount of the payout should be calculated according to the earner’s net salary, the number of years it will be needed to maintain the family, as well as additional expenses incurred due to the breadwinner’s death, such as childcare. The amount can be paid in a lump sum and invested in order to pay out the income needed, or paid in monthly instalments as a Family Income Benefit.
- Replacing childcare – the death of the primary childcare provider may create expenses in the form of full-time childcare. The level of care needed and for what term depends on the age of the children.
- Education expenses – cover can be arranged for school fees and/or university tuition and expenses for children in the event of the death of the primary earner.
In some cases, policyholders may be concerned about leaving debts behind; in others, they may simply wish their family to be able to keep up a certain standard of living after their death.
It is recommended that you use your current annual salary as a base guide from which to establish how much total cover you wish your policy to provide. A general rule is to choose a policy providing at least ten times your salary; in certain circumstances, up to 25 times salary may be appropriate. Again, the amount will vary depending on how you intend it to be used.
People unsure about the type of coverage they need, or the amount they should insure for, should consult an Independent Financial Advisor for expert advice.
Once you have determined which financial goals you wish to satisfy, the next step is to choose the type of cover you want.
Life assurance: policy types
Term life assurance is the simplest form of policy, offering basic cover for a set number of years, usually at low cost. A term policy requires a regular premium payment and pays out a lump sum on the policyholder’s death. If the policy expires and the holder is still alive, no payment is made; the policy pays out only if you expire before it does.
The cost of the assurance premiums will vary from person to person depending on factors such as age, health and occupation, but for all policies it is crucial to ensure you keep up the monthly premium payments to keep cover in place.
Term assurance policies may also offer the option to pay an extra premium and receive a payout in the event the policyholder is diagnosed with a critical or terminal illness.
Critical illness cover can include debilitating but not necessarily fatal conditions such as heart attack or stroke, cancer, multiple sclerosis, loss of limbs, etc., and the cover pays a lump sum on diagnosis – not for treatment of the condition, as you would expect with a health insurance policy.
As with any coverage, it is important to be sure exactly which conditions the policy covers, and which it doesn’t. A policy will be very specific as to the illnesses it will pay out for; critical illness policies can also range from basic coverage, which will include just the main critical illnesses such as cancer, to comprehensive policies that cover a more extensive range of conditions.
Full disclosure of any and all existing medical conditions and history is vital when arranging critical illness cover. Failure to disclose could result in denial of payment when an illness is diagnosed – just when that payment is needed most.
Policyholders wishing to provide for their families in the event of their death can choose Level Term assurance, which pays a lump sum if the holder dies during the term of the policy. The payout amount is guaranteed and remains the same throughout the policy; you only need to choose how much you wish the amount to be, and the length of the policy term. There is no payout, however, should the policyholder outlive the term of the policy.
Decreasing Term assurance sees the amount to be paid out decreasing over the term of the policy. Most often used to cover mortgages, this type of term life assurance has the payout sum reducing over time just as the amount owing on the mortgage reduces.
Some mortgage providers will not release mortgage funds without the debtor securing some form of life assurance, guaranteeing repayment should the worst happen.
Whole-of-life assurance removes some of the guesswork from life assurance by guaranteeing a payout of a lump sum when the policyholder dies, at whatever time that may be. As long as the premiums are maintained, the cover is assured. However, because a payout is virtually guaranteed, this assurance is generally more expensive than basic term assurance and is generally more likely to be used in Estate Planning as a tool to meet Inheritance Tax liabilities.
Endowment life assurance policies are essentially savings schemes that have life assurance attached; they are most often carried with mortgages and pay out any accumulated returns at the end of the policy term, or if the policyholder dies before the end of term, a payout sum plus any returns so far.
Generally endowments are taken out with decreasing term assurance, where the payout sum decreases throughout the term of the policy to cover the remaining mortgage debt, but the endowment investment is hoped to make up the difference and even perhaps surpass it. However, this happy outcome requires the cooperation of the investment markets – the performance of which is not, of course, guaranteed.
With Convertible Term assurance, you may convert a term policy to whole-of-life or endowment assurance at the end of the term of the policy, without necessarily having to provide new medical details.
Family income benefit provides a slightly different payout; the benefit upon your death is provided to your family in regular payments rather than in a lump sum, giving them a regular income over a selected period of time. The term is chosen at the outset of the policy, and this type of policy would usually be taken to replace a lost salary or to provide an income for a particular purpose, such as children’s education expenses.
With Family Income Benefit, you decide the term ahead of time, perhaps to match your expected income-earning years. So if you die with five years to go on the term of the policy, it pays out the benefit to your dependent for the next five years. If you die with only six months to go to the end of the term, your family will only receive six months’ worth of benefit.
What do I need to look out for?
It is extremely important to know the terms and conditions of your life assurance policy. In many cases, a policyholder’s personal circumstances may change during the term of the policy, and so the current premiums or the eventual amount of the payment may no longer be appropriate.
While a policyholder’s personal circumstances may be likely to change, the economy itself is guaranteed to do so, and a policy taken out 20 years previously may simply no longer cover all contingencies. Some companies offer the option of index-linked policies, in which the guaranteed payout and the premium payable are linked to the Retail Price Index and rise alongside it each year.
Holders of index-linked policies need to establish whether their policies are linked automatically, or whether they need to opt-in to linkage each year; failure to do so could result in being locked out of future linking.
Furthermore, policyholders must be aware of all the rules and regulations pertaining to payouts. Some policies may not, for example, pay out if death is caused by participation in certain dangerous sports or activities.
People who receive life assurance as part of an occupational pension scheme need to ensure that cover is maintained if they leave that place of employment. If the same policy is not maintained, a new one should be started in its place as soon as possible.
It is also important to remember that the longer you put off getting life assurance, the more expensive it will get.
Who should be covered?
Life assurance is not merely the sole province of the ‘breadwinner’, or the person who earns the largest salary. For a family with young children, the spouse providing the bulk of the childcare – often but not always the woman – performs a function that, in the event of their death, costs the family a great deal to replace with outside help.
A family that loses its stay-at-home mother may, for example, have to hire a full-time live-in nanny to provide the same sort of care, and will have to provide relief cover as well for evenings, weekends and holidays.
Spouses can arrange separate life assurance policies, but a more economical route could be to arrange joint life assurance cover, where the policy pays out if either spouse or partner dies during the term of the policy. Depending on the particular policy, the benefit may be paid out at the death of the first policyholder, or to a separate beneficiary upon the death of the second policyholder.
What about the beneficiary?
Most commonly, policyholders will name their spouse and/or their children as beneficiaries of their life insurance, with other family members an option for the unmarried and childless. Beneficiaries are not limited to family – a business partner is also a popular option.
A joint-life policy is a popular and often less expensive option for couples which covers the two of them simultaneously. This type of policy may be in a first-death form – where the benefit is paid out on the death of the first of the two to die to the surviving partner – or a last-survivor form, where the benefit is paid to the beneficiary, usually the children, after both partners die.
Spouses may also take out life-of-another policies on each other; a husband may take out insurance on the life of his wife, and vice versa. Life-of-another policies require that you prove an insurable interest in the person whose life you are insuring; however, spouses are assumed automatically to have an insurable interest in each other’s lives.
Will my life assurance payout be taxed?
The payout from a life assurance policy is generally free of deductions for personal income tax – by itself, it is tax-free. However, the payout is considered overall as part of the deceased’s estate.
If the payout, when added to the estate, pushes the entire estate over the threshold for paying no inheritance tax, then any amount over the threshold would be liable for tax. In order to spare beneficiaries the burden of paying tax on a life insurance payout, policyholders can opt to write the policy in Trust. Placing the policy in trust ensures that the proceeds will not create or worsen a tax burden. They will also be available to the trustees to pay out to the beneficiaries almost immediately upon death, whereas if they form part of an estate they may be tied up in probate for several months.
A whole-of-life insurance policy can also be written under trust to be used for expected inheritance tax costs on the deceased’s estate to cover the tax burden. The policy in trust can be released to the beneficiaries almost immediately upon death, and they can then use it to pay the inheritance tax bill to release the estate.
Placing a life assurance policy in Trust is a complex issue, and people considering this option should always seek advice from their solicitor and independent financial advisor before proceeding.
How much does it cost?
The cost of each different policy offered by a life assurance company varies widely, and depends on a number of factors: the type of policy, the length of the policy term, the size of the death benefit, the flexibility of the policy, number of people covered by the policy and so on.
The cost of premiums will also depend to a large extent on your answers to more personal questions: the company will wish to know your age, your state of health, whether or not you smoke, what you do for a living and similar questions. They will likely also wish to know whether certain diseases and conditions run in your family, such as cancer, heart disease or other potentially fatal conditions.
How do I apply?
Applying for life assurance may for some people be as simple as filling out a few forms. Many of us, however, will not be so lucky, and more assessments will be involved before an assurance company decides to offer a policy, and at what cost.
Insurance companies use what they call mortality tables to determine the premium for a particular individual. These tables assess the chances of a person dying within the term of a policy, based on factors such as their age, sex, occupation, smoker/non-smoker status and so on. Mortality tables will be used to assess the premium for a person in normal health. To these premiums the insurance company may then add a ‘loading’, after taking into account other factors relating to medical history and lifestyle.
In order to determine whether a loading will apply and if so, how much, it is not uncommon for a life assurance company to request additional reports from your GP or even a medical examination. The likelihood of this happening will depend on various factors such as how much cover you are seeking, your age, medical history and general health and lifestyle.
It is important to ensure you disclose the truth about your health and any conditions you may suffer from to the insurer; failure to disclose such information could result in your life assurance policy being null and void upon your death.
The underwriting process
Once you have completed an application for life assurance, your proposal is assessed for risk and appropriate premium rates are calculated during the underwriting process. Rates are normally expressed per £1,000 worth of cover guaranteed by the policy, and will vary according to the factors described above. Insurance companies will also employ the services of qualified doctors to interpret reports and medicals from GPs and to help determine the amount of any premium loading.
Once the underwriters have assessed the application, you will be offered terms and the cost will be confirmed. In most cases this should be the price that you have been quoted, as most people will be accepted at normal rates. However, in some cases a loading will be applied which will increase the costs and in some more serious cases the underwriter may refuse to offer cover at any price. In these cases the insurance company will usually send details to your GP so that he can advise on the reasons.
How is payment made?
On the death of a policyholder, the beneficiary of a life insurance policy will normally be asked, on submitting a claim, to provide various proofs: the death certificate of the policyholder, proof of policy and other documents the insurer may require to process the claim. If the policy has been written in trust, then the payout can normally be made very quickly. However, in the event that the policy is not written in trust, the payout will only be made on production of the Grant of Probate, which may take some weeks.
Having read our guide to life assurance, you will now be in a far better position to determine what type of policy is best for your needs.
Remember, while many people automatically opt for the lowest monthly premium or the highest payout sum they can find, this may not be the best choice for all circumstances.
If you wish to provide a steady income for your family over the longer term, or expect your financial circumstances to change over the term of the policy, flexibility may be higher on your list of needs.
Within reason, people of any age or health status can usually arrange some form of life assurance cover, though of course the cost of premiums will vary depending on your own personal situation.
But for the very best – and lowest cost – deals around, request your own personalised quotation from one of our life insurance experts today
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