Life Insurance: Breaking Multi-Generational Wealth Gaps
In 2021, the official poverty rate for the United States was 11.6%, which accounts for over 37.9 million people. For our community in Springfield, Missouri, this number increases to 21.7%. Like any financial advisor, I strive to see that number go down.
Multi-generational poverty is a very complex topic, but let’s take a small bite out of it. First, we’re going to break down the basic concept of life insurance; but more importantly, I want to share how you can use it as a tool to take back some control–especially during times when imagining a successful future might feel daunting.
What is Life Insurance?
Life insurance is a policy that you pay into each month. Upon your death, the value of your policy is granted to a person of your choice (known as a beneficiary). When your beneficiary inherits your life insurance policy, they receive a non-taxable payment.
The total payout on a life insurance policy is variable by your unique circumstances and how much coverage you choose. A basic policy pays a few thousand dollars to cover funeral costs, while a larger policy might be $10,000, $100,000, or even $250,000. Note that you don’t need to pay that amount for your beneficiary to earn the payout–the value of your policy is guaranteed by the insurance company.
Bruce Porter: Do I Need Life Insurance?
Top 3 Reasons to Have Life Insurance
1: It’s Tax-Free Money for Your Beneficiary
Unlike many examples when someone inherits money or property, inheriting a life insurance policy is generally tax-free to a properly named beneficiary. So if you buy a policy worth $250,000, for example, your beneficiary will actually receive $250,000.
This cash, known as a death benefit, can help replace your income and cover financial needs like funeral costs or daily living–mortgage payments, groceries, gas, tuition, etc. A life insurance policy helps alleviate your need to put money away for these expenses and also helps protects your family from further financial hardship.
2: It Could Pay Out More Than an Investment Account
Let’s say that you contribute to a 401k savings account that you put money into whenever you can. For this example, we’ll say that you have a spouse or a child who will inherit your savings. Before they receive the inheritance, your 401k will have to be taxed at their current income level (not yours).
To work with some soft numbers: imagine you contribute $50 each pay period to a 401k. It will take 10 or more years to build up to the amount of life insurance, which you could also buy for $50 a month. In this kind of scenario, the life insurance payout is much more likely to help out your family in the event of your death than your 401k–especially after they pay the income tax.
I know that it is NOT an option for everyone to invest in a life insurance plan at all. But here’s something for consideration: with a life insurance policy, your beneficiary might take away more than what you put in. As stated earlier, purchasing a policy doesn’t mean you have to pay that amount for your beneficiary to receive the benefits of the policy. I would highly encourage a quick consultation with a life insurance agent.
3: Funeral Expenses Can Be Crippling to the Next Generation, Which Perpetuates the Cycle
For some families, these expenses could deplete all of the savings they have, forcing them to start all over. Some families might even take on new–or even additional–debt, many of whom can’t afford to make payments.
When a person can’t keep up with payments, or just barely keep up with payments, the simple cost of a funeral can cause financial damage to the next generation. Running a financial deficit can accrue larger fees, penalties, and interest rates. Plus, defaulting on loans will often damage their credit scores, which can push some financial goals even further out of reach–like owning a home or keeping a reliable vehicle to get to work. Just like a domino effect, those obstacles make it harder and harder for their children to get ahead, which is a major contributor to perpetual poverty and wealth insecurities.
As stressful as it can be to plan for another monthly bill, my experience is that many people think that life insurance is more expensive than it ACTUALLY is. According to a study done by Bankrate, more than 50% of Americans overestimate the cost of life insurance by 300%.
You Can Choose Coverage Types that Fit Your Budget
Final Expense Insurance
If you need less coverage at one of the lowest costs, there’s a life insurance policy often known as “burial insurance.” It helps older adults pay for end-of-life costs, ranging from medical bills to funerals or even credit card debts. It often has a lower payout, but can easily add up to $10,000 or more.
Mortgage Life Insurance
If you’re worried that your beneficiary won’t be responsible with a payout and you have property that you want to protect for future generations that you want to protect, you can elect your mortgage lender to receive the payout. The payout would go towards the remaining balance on your debt.
Term Life Insurance
This is the most simple policy. It only pays out if death occurs during the term of the policy, which is usually 1-30 years. Term Life Insurance is ideal for short-term coverage needs.
Whole Life Insurance
Unlike Term Life Insurance, Whole Life Insurance offers protection for your entire lifetime. Even if you buy it when you’re 20 and live to be over 100. While more expensive than a term policy, this is the ideal coverage for long-term needs–assuming you continue to make the required premium payments.
Indexed Universal Life Insurance
Indexed Universal Life Insurance is a type of permanent insurance in which the owner can earn interest on the cash value within the policy based in changes in an external index, such as the S&P 500, while never being invested in the market itself.
An IUL not only provides a traditional death benefit, but can also build cash value which in turn could increase the policy’s death benefit. You may be able to access this cash value while you’re alive, too, via policy loans and withdrawals.
Bonus: An IUL policy is a great option to build up your assets with an increased death benefit. Talk with a financial professional about how this might work in your situation.
Policy loans and withdrawals will reduce available cash values and death benefits and may cause the policy to lapse or affect any guarantees against lapse. Additional premium payments may be required to keep the policy in force. In the event of a lapse, outstanding policy loans in excess of unrecovered cost basis will be subject to ordinary income tax. Tax laws are subject to change. You should consult a tax professional.
On the Fence?
Here are some closing notes that I have about life insurance:
- An online quote can’t take your personal struggles into account. A licensed insurance professional can help you pick the right plan for your budget
- Your beneficiaries are guaranteed to receive the available death benefit
- The amount of money they receive can be transformative to their financial future
- Likewise, a life insurance plan can ease some of your financial planning burdens
- Life insurance is usually much more affordable than most people think
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Life insurance is complex and involves fees and charges, including potential surrender penalties for early withdrawals. It typically requires medical and sometimes financial underwriting to qualify. Product and feature availability may vary by state.
Insurance product guarantees are backed by the financial strength and claims-paying ability of the issuing company.