This spring’s floods, fires and tornados have reminded us that we all face risks in our everyday lives. Sometimes we choose to “self-insure” these risks, other times we pay a premium to an insurance company, who takes on the risk and shares it by spreading it over a number of people.
In personal finance, we always look at the financial risks to a client or the family if the client were to become disabled and unable to work, become seriously ill, or die. In some cases, the client is able to self-insure, because adequate assets exist to provide all the necessary income, even if the breadwinner could not work.
For most of us, though, the extended disability or death of a breadwinner would be a serious or catastrophic financial event. In these situations, purchasing insurance is the only prudent thing to do.
The Dollars and Sense articles I’ve written in the past to help simplify insurance have been very popular. Some of these are available on my blog, at www.davidchristianson.com/?cat=21, or just go to the homepage and search by categories or tags.
Today, I will touch on the different types of personal insurance protection available, and also talk about a new insurance product that combines three different types of insurance into one policy and one pool of protection.
At its essence, life insurance is very straightforward – if you die, they pay.
Things can get more complicated when deciding on the amount of coverage you need and the right product, but we can simplify that by talking about temporary needs and permanent needs.
Remember that life insurance is simply the guaranteed delivery of dollars on death. If the death of a certain person would create a financial hardship for others, then insurance is often the best solution.
These needs might be temporary – like paying off a mortgage or replacing a breadwinner’s income while children are young – and therefore best addressed through term insurance. Or the needs might be permanent – like paying the estimated income taxes when the second one of a married couple dies – and best addressed by permanent insurance. This goes by names such as whole life, universal life, or term-to-100.
Term insurance is much less expensive, because the risk of a healthy person dying during the committed term is relatively low. Permanent insurance costs more, partly because it usually builds up cash reserves, and also because the policy is required to pay out at some point in the future, as long as the policyowner keeps the policy in force.
Many more people become disabled for a period of three months or longer during their careers than actually die. Disability insurance pays a predetermined amount of monthly income after an agreed waiting period, if the policyowner becomes totally disabled. There are many different options and definitions which make disability insurance more complicated, but it is an absolute necessity for self-employed people who have dependents.
Critical illness insurance is a relatively new (1980’s) product, and it pays out the agreed sum if the policyowner is hit by one of a list of about 20 to 30 serious illnesses, such as cancer, heart attack, stroke, etc., whether or not the person insured is disabled. These policies do not necessarily pay out if a person is disabled, if through accident or an illness that is not listed in the policy. For this reason, critical illness insurance is not a replacement for proper disability coverage, customized to a person’s situation.
One insurance company has introduced a very innovative life insurance product, which combines life, critical illness and disability insurance within a single policy. When an applicant passes the required medical underwriting criteria, they are approved for the agreed total amount of insurance.
That pool of money can be drawn upon to satisfy a death claim (100% of the available pool), a critical illness claim (25% of the available pool, which then decreases the future death benefit pool) or disability insurance claim (up to 0.5% of the available pool paid per month, also decreasing the pool).
Several insurance companies have combined term insurance and critical illness, but this product, called Synergy, is the first I’ve seen with all three protections pooled into one. This simplifies the application process, decreases the cost of protection and may allow a lot of middle income earners to become properly protected from the varied risks they actually face.
And who said actuaries couldn’t be innovative?
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This information is meant as an introduction to this topic and should not in any way be construed as a replacement for personalized professional advice.