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What Kind of Life Insurance Do I Need?

Who brings in the cash at your house? Is it you? Your spouse? Both of you? Although none of us want to think about this, what would happen if the person in your home responsible for bring home the paycheck were to suddenly pass away? What would happen if tomorrow, you had to not only bury your spouse, but you also had to figure out where the money was coming from to pay your mortgage, car loan, credit cards, school loans, and other obligations? What if you have been a stay at home spouse all of your life and are now faced with a house full of children and very little in the way of marketable skills beyond what would be considered unskilled labor in the marketplace?

We don’t want to think about these questions but it’s a new year and for the protection of your family, it’s time to take a few minutes and think about it. Here’s the most basic answer to all of these questions: If there is one person in your family who is solely responsible for producing the income in your home, you need life insurance. Here’s what you need to know to get started.

How Does it Work?

Life insurance is designed for the unfortunate situation above. If the person who produces the majority of the income in your family were to unexpectedly pass away, life insurance replaces that income. Unfortunately, life insurance can get complicated but if you’re looking for a simple policy that replaces the lost income, all you need is a term life policy. If you take out a $200,000 term life policy, upon the person’s death, you receive a lump sum payment of $200,000. Because of the simplicity of the policy, you can get numerous quotes and easily compare the policies.

What is Cash Value?

Here’s where it gets complicated. Nearly 70% of all life insurance policies include a cash value component. Think of the cash value component as another way of saving for retirement but according to best selling author Dave Ramsey [3], it doesn’t work that way. Ramsey says that a $125,000 cash value policy will cost you about $100 per month compared to $7 per month for a term life policy if you’re 30 years old. With the cash value policy, until all of the fees and commissions are paid, about three years, you don’t have anything to show for the added cost. In addition, the returns average up to 4% less than they would if you bought the same mutual funds outside of the life insurance policy.

What Should I do?

Ramsey, as well as other personal finance experts advises paying for a term life insurance policy and investing the rest in an IRA where the returns will be higher and the fees lower. Keep your insurance products easy to understand by not adding an investment component to them. Also check with your employer. Many employers automatically enroll their full time employees in to a term life insurance program. You might already have it and not know it.

(Photo: mfhiatt [4])