Insurance should form an integral part of your financial planning for the future, but please note that it is a product that is sold rather than bought. By that I mean that networks of agents are typically employed to sell policies for lucrative commissions, so please be sure you have carefully analysed your coverage needs before buying a policy ... don't be talked into anything you don't need.
The insurance industry is huge and contains myriad forms of policies and coverage: life, critical illness, income replacement, medical, household, motor and travel, to name only the most common types of policies. In this lesson I want to teach you about the types of life insurance policies, arguably the most important of the lot. So what do we have? There are two basic kinds of life insurance policy: whole-of-life and term. In order to buy either type, you will need to pay the insurance company a premium on a regular basis - monthly, quarterly, bi-annually or annually. This premium, or fixed sum, is calculated on the amount of life insurance cover you wish to take out. For example, if you are in your twenties, the premium will be fairly low, but as you get older the premiums will increase.
Whole-of-life is a type of permanent insurance combining life cover with an investment fund, and the insurer will pay out a fixed amount upon your death. Part of your annual premium will go into the investment fund to build cash value; this means that if you decide, for whatever reason, that you no longer want to pay your premiums and cancel the policy there will be a cash value left in the fund that will be paid to you.
Term insurance, on the other hand, has no investment component and your life cover is limited to the specified period (the "term") provided you pay your monthly premiums. In this scenario, if you die during the term, the insurer will pay out the pre-agreed sum, but if you outlive the term they will not. And this is why a whole-of-life policy will always be more expensive than a term policy, because it will pay out on a certainty (your death) rather than on the possibility that you die during a fixed term.
Life insurance is important if you have a family, so anyone with dependents should consider it a must. For example, whole-of-life will help to meet your family's financial requirements and obligations (mortgage payments, children's education) in case of your untimely death. Term policies, on the other hand, may be used to protect your children until they reach, say, 21 or are otherwise financially independent.
So which one should you choose? Factors to consider include whether the surviving partner will have childcare expenses. Do you have other assets on which to draw? Will your children be out of the nest soon? These, and many other factors, influence the decision on how much coverage you need. If in doubt, speak to a certified planner. The earlier you purchase a policy, the cheaper the premiums will be. The younger you are, the healthier you are likely to be, which will also affect your rates. When completing the application form, you must be honest about your personal details.
So if you smoke, have a risky occupation, or engage in dangerous sport like skydiving, say so, even though you'll pay more for your policy. Remember that insurers have been in the business longer than you and know all the tricks. There are plenty of websites to guide you through the life insurance market, such as www.lifeinsurance.net, or you can call your (newly appointed?) financial adviser for additional input.
Next week we'll tackle the process of insuring yourself against serious illness or accident. John McGaw is a financial adviser based in Dubai. Contact him at jmcgaw@emirates.net.ae