Life Insurance: What PFMP Staff and Military Families

Need to Know

Barbara O’Neill, Ph.D., CFP®, AFC, CHC Rutgers Cooperative Extension

oneill@aesop.rutgers.edu

Webinar Objectives • Discuss basic insurance concepts

• Discuss basic life insurance concepts

• Describe different types of life insurance policies

• Discuss how to calculate life insurance needs

• Discuss life insurance information resources

• Discuss military life insurance options

Question #1 What types of questions do your clients ask you about life insurance?

Third party risk protection

– Paying a company to share your large financial risks

– Requires a large pool of people pooling the same risk

What Is Insurance?

The Essence of Insurance • Insurance consists of two basic elements:

– Reduction of risk – Sharing of losses

• Law of Large Numbers – As the number of members in a group increases, predictions about the group’s behavior become increasingly more accurate

Why Is Insurance Important? • Protects income and assets

• Death

• Disability

• Lawsuits

• May be required by lender – secured loans

• May be required by law • For licensing (i.e., driving, medical practice)

• As employee benefit (health, disability)

Life is Full of Risks…Many Have Financial Consequences

• Damage to car in accident

• Loss of home and/or possessions

• Loss of income due to disability

• Loss of a household earner’s income due to death

• Loss of a homemaker’s services

• Large medical bills for disease or injury

• A court judgment of liability for damages

Common Types of Financial Risks

• Personal Risks – Loss of income or life

– Illness, disability, or unemployment

• Property Risks – Losses to property

– Damages by fire, theft, tornado, etc.

• Liability Risks – Losses caused by negligence

– Injury or property damage to others

Five Ways to Manage Risk

• Do nothing and hope for the best

• Risk avoidance

• Risk reduction

• Risk acceptance

• Risk transfer (insurance)

Risk Avoidance

Risk Shifting

Risk Assumption

Risk Reduction Ways to

Manage Risk

Don’t stop at a convenience store in a bad part of town after midnight

Wear seatbelts

Install an alarm system

Buy Insurance

Self Insurance

Source: Garman & Forgue (2010). Personal Finance

Question #2 Do you have any other examples to illustrate risk management methods?

Two Key Insurance Concepts

• Loss Frequency – The likely number of times that a loss might occur over a period of time.

• Loss Severity – The potential magnitude of the loss(es) that may occur.

The Relationship Between Severity and Frequency of Loss

Source: Garman & Forgue (2010). Personal Finance

Common Types of Insurance

• Life

• Automobile and motorcycle

• Property (homeowners, renters)

• Health

• Disability

• Long-term care

• Umbrella

How Insurance Works

Insurance Policy – Contract between a person buying insurance (the insured) and an insurance company (the insurer).

An Insurable Interest Must Exist to Buy Insurance

Insurable Interest – When a person or organization stands to suffer a financial loss from a specific risk.

• Example #1: A person who lives in an house

that is insured

• Example #2: The spouse of person who is covered by life insurance

Basic Insurance Terms • Coverage = What insurance contract pays for

• Term = Length of insurance contract

• Premium = Cost of insurance contract

• Claim = Request for insurance benefit payment

• Choice = Level of risk you want to take – e.g., Amount of insurance coverage, deductibles

• Chance = Possible risks you have; statistics – e.g., Age, density of area where you live

• Control = Lifestyle and behavior – e.g., Driving habits, health habits

Insurance Cost Factors

Insurance is Regulated by States

Insurance Information Institute

http://www.iii.org

• Pays when the policy owner dies

• Generally purchased to financially help those left behind

• Provides money to beneficiary(s)

• Can be temporary or permanent coverage

Life Insurance Basics

Financial Planning With Life Insurance

• Protect those who depend on your income from financial loss resulting from your death – Reduces financial burdens of survivors

• Obtained by purchasing a policy – The insurance company promises to pay a lump sum

(death benefit) to a named beneficiary at the time of the policy holder’s death (or sometimes while they are still alive)

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Other Reasons to Buy Life Insurance

– Pay off a mortgage or debts

– Provide an education or income for children

– Accumulate savings

– Continue a business after key personnel die

– Set up an estate plan (e.g., fund trusts with life insurance)

– Pay estate taxes (e.g., farmers and business owners)

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Key Life Insurance Terms • Mortality Tables- Provide odds on your dying, based on

your age and sex. – Premium is based on life expectancy and projections for payouts for

persons who die (called actuarial tables) – Older people pay higher premiums because they will die sooner

• Face Amount- The dollar value of protection listed in the policy and amount used to calculate the premium (e.g., $100,000)

• Group Term Insurance- Issued to people as members of a

group rather than as individuals

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Key Provisions in a Life Insurance Policy

• Beneficiary and contingent beneficiaries (those who will receive benefits upon the insured’s death)

• Incontestability clause After the policy has been in force for a specified period, the company can’t dispute its validity for any reason (usually 2 years)

• Length of grace period for late payments

• Reinstatement of a lapsed policy if it has not been turned in for cash (must qualify again and pay overdue premiums)

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More Key Policy Provisions • Non-forfeiture clause allows you to keep accrued

benefits in a whole life policy if you drop the policy

• Policy loan provision to borrow against cash value

• Suicide clause during first two years (only get back premiums in the event of suicide)

• Policy rider modifies the coverage by adding or excluding conditions or altering benefits

Common Life Insurance Policy Riders

• Waiver of Premium for disability benefit

• Accidental Death Benefit – “double indemnity”

• Guaranteed Insurability Option (can buy additional insurance at specified intervals without a medical exam)

• Cost of Living Protection (helps maintain purchasing power)

• Accelerated Benefits, also called living benefits (make payments to those who are terminally ill before they die)

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• Often provided as employee benefit (e.g., 1 to 5 x salary)

• Least expensive type of life insurance coverage

• Lasts for specific time period (e.g., 1 to 30 years)

• Provides protection during its term; like “renting insurance”

• No cash value

• Gets more expensive with age

• May not be able to get after age 65

Term (Temporary) Life Insurance

Common Types of Term Life Insurance

– Renewable Term- Can renew; higher premium charged

– Multiyear Level Term- Same premium for set period (e.g. 15 or 20 years)

– Conversion Term- Allows change to a permanent policy

– Decreasing Term- Face value decreases over time (frequently used for mortgages)

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• Combines life insurance coverage and an investment account (a.k.a., cash value)

• More expensive than term life insurance

• Amount of premium based on age when you buy the policy

• Can borrow against the cash value

• Generally need to hold policy a long time for a good investment return

Permanent Life Insurance

Types of Permanent Insurance Straight-Life or Whole-Life Insurance

– Pay the premium as long as you live – Accumulates a cash value you can borrow against – Look carefully at the rate of return

Limited Payment Policy – Pay premiums for a stipulated period – Policy then “paid up” and you remain insured for life

Variable Life Policy- Fixed premiums; cash put into investment accounts Adjustable Life Policy- Can change coverage with needs Universal Life- Can change premium, time period, benefit There are many variations of these policy types; read the fine print!

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Comparison of Premium Dollars for Life Insurance

Source: Garman & Forgue (2010). Personal Finance

Question #3 What type of life insurance do you have and why?

Who Needs Life Insurance? • Do you have people you need to protect financially? Will your

death cause them financial hardship? – Common Scenario: joint debt with a surviving spouse

• Are you single and have a lot of debt? – Common Scenario: student loans cosigned by parents

• Do you have parents, relatives, or a charity that you want to support? – Common Scenario: divorced parent with children

Avoid being persuaded to buy unnecessary life insurance!

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How Much Life Insurance? • Funeral costs

• Mortgage/debt costs

• Needs of beneficiaries (e.g., number and age)

• Goals (e.g., college costs for children)

• Care expenses for children

• Ability/income of spouse or guardian

• Other financial assets

Online Life Insurance Calculators: www.lifehappens.org/life-insurance-needs-calculator/

http://www.bankrate.com/calculators/insurance/life-insurance-calculator.aspx

Estimating Life Insurance Needs • The Easy Method

– 70% or 75% of your salary for seven to ten years while your family adjusts

– Assumes typical family without special needs

• The DINK Method – Dual income, no kids – Assumes spouse earnings will continue – Cover funeral + ½ debts

• The “Family Need” Method – More thorough than the first three methods – Considers employer provided insurance, Social Security

benefits, income, and assets 10-36

“Family Need” Method Process • Follow these steps:

– Estimate annual income needed by survivors

– Calculate # of years income is needed

– Add expenses (e.g., funeral, debt, other)

– Subtract income, such as government benefits and survivor’s income, and existing assets

• Review periodically as needs change

Life Insurance Worksheet #1

Life Insurance Worksheet #2 https://www.hr.cornell.edu/benefits/insurance/worksheet.pdf

Types of Life Insurance Companies

2 Types of Life Insurance Companies

Type of Company Owned by

Stock life Insurance Shareholders

Mutual life insurance Policyholders

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Stock Life Insurance Companies • Owned by shareholders

• Sell non-participating (non-par) policies

• Majority of life insurance companies

• Consider the financial stability of the insurance company

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Mutual Life Insurance Companies

• Owned by policyholders

• 5% of policies are from this type of company

• Participating policy premiums are higher than non-participating policies

– Part of the participating premium is refunded to the policyholders annually in the form of a policy dividend

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Other Types of Life Insurance • Group life insurance

– Term insurance

– Often provided by an employer

– No physical is required

• Credit life insurance

– Debt paid off if you die

• Mortgage, car, furniture

– Expensive protection (usually overpriced)

• Endowment Life Insurance- pays policyholder a lump sum if still living at end of the endowment period

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Buying Life Insurance Consider:

– Present and future sources of income (self/spouse)

– Accumulated assets

– Outstanding debts

– Group life insurance benefits (if any)

– Special needs of family members

– Available Social Security benefits

– Financial strength of insurance companies

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Buying Life Insurance • Compare policy costs based on:

– Company’s cost of doing business – Return on company’s investments – Policy features

• Interest-adjusted index – Used to compare policy costs – Lower index = lower cost policy – Like an APR for credit or APY for bank products

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Buying Life Insurance • Research insurance company ratings by major rating

firms: • A. M. Best

• Standard and Poor’s

• Duff & Phelps

• Moody’s

• Weiss Research

• Talk to knowledgeable friends/family or advisors

• Check out online premium quote services

• Visit sites such as www.quotesmith.com

Male, born 1/1/1980; 190 lb; Living in New York State

$400,000 term insurance – 10 years

Preferred (best health), never smoked

$55+ per quarter ($220/yr)

Standard, current smoker

$155+ per quarter ($620/yr)

Sample Online Life Insurance Quote

Source: www.directquote.com

Question #4 What other factors do you tell people to consider when buying life insurance?

Choosing an Insurance Agent • Ask friends, family and/or other financial

advisors for recommendations.

• Does the agent belong to insurance industry professional associations

• Is the agent a Chartered Life Underwriter (CLU)?

• Is the agent willing to take the time to answer questions and find a policy that is right for you?

• Do you feel pressured?

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Obtaining and Examining a Policy • First step: apply for policy

• Second step: provide medical history

– Usually no physical for a group policy

• Read the contract carefully

• Use the “free-look” period to change your mind, if necessary

• Give beneficiaries and executor(s) of your will a photocopy of the policy (or key data about it)

• Review periodically; revise as needed 10-50

Life Insurance Evaluation Service

• Compares costs and benefits of cashing in a policy or keeping it and buying different forms of coverage

• By Consumer Federation of America, a national consumer advocacy group

• Costs about $100 for the evaluation

www.evaluatelifeinsurance.org/#two

Should You Switch Policies? • Switch if benefits exceed costs of getting new

physical exam and paying policy set-up costs

• The older you are, the higher the premium

• Are you still insurable?

• Can you get all the provisions you want?

• NEVER cancel an old policy until new policy is in hand

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Choosing Settlement Options Settlement Options = choices of how the

insurance money is paid out – Lump-Sum Payment = most common method – Limited Installment Plan

• In equal installments to beneficiary for a specific number of years after your death (e.g., 10-years)

– Life Income Option • Payments to the beneficiary for life

– Proceeds Left with the Company • Pays interest to the beneficiary

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Life Insurance for Military Families Servicemembers' Group Life Insurance (SGLI)

• Low cost group term life insurance automatically available to all active service members

• Automatically activated for $400,000; SM can elect lower coverage or no coverage

• Coverage in effect for 120 days after discharge

• Dependent children automatically insured for $10,000 at no additional cost to SM; generally until child is 18

– Unless child is a full time student or totally disabled

• Can convert to Veterans Group Life Insurance when released from service

More About Military Life Insurance • Depending on family needs, SM may require more coverage,

but SGLI is a good base to build on

• Key form for all transactions related to SGLI: Form SGLV 8286, Servicemembers’ Group Life Insurance Election and Certificate

• Benefits for beneficiaries do NOT pass through a will; beneficiaries must be listed on SM’s SGLI documents

• When life events happen, it is important for SMs to keep their life insurance beneficiaries current

– Two types of beneficiaries: Primary and Contingent

– Beneficiary Designation Worksheet: http://njaes.rutgers.edu/money/pdfs/beneficiary-designations.pdf

More About SGLI • Premium ranges from $3.25/mo for minimum

$50,000 to $26/mo ($312/yr) for $400,000 (cost: $3.25 per $50,000 of coverage)

• Coverage can be extended for up to two years if the Servicemember is totally disabled at separation

• Part-time coverage is provided to Reserve members who do not qualify for full-time coverage

• Because SGLI is term insurance, there is no cash value; it also does not pay dividends

• Web site: http://benefits.va.gov/insurance/sgli.asp

Veterans Group Life Insurance (VGLI)

• After SM leaves military, SGLI can convert to VGLI

• See http://benefits.va.gov/insurance/vgli.asp

• SM should compare VGLI premiums and features with individual policies to determine the best deal

• SM have 120 days from military separation to apply for VGLI

• VGLI is renewable term life insurance with no cash value

• SM may purchase in multiples of $10,000 up to $400,000

– Coverage cannot exceed what SM had under SGLI at the time of separation from service

Traumatic Injury Protection Under SGLI (TSGLI)

• See http://benefits.va.gov/insurance/tsgli.asp • Extra $1/mo premium ($26 + $1 = $27 total monthly) • Provides payment for SM suffering a traumatic loss:

loss of sight, hearing, speech, or limbs (on or off duty)

• Rider attached to SGLI policy • Only covers SM; spouse/children are not eligible • Pays a benefit between $25k-$100k (depending on injury)

• Cannot be declined if SM is insured; can only be declined if SM also declines SGLI

Family Servicemembers Group Life Insurance (FSGLI)

• Automatic coverage to spouses and dependent children of an active duty SM covered by SGLI

• Spouse insured for $100k or amount of SM’s coverage, whichever is less; SM spouse must apply for spouse coverage

• Maximum spouse coverage is issued automatically but can be declined or reduced in writing by a SM

• Coverage is issued in increments of $10,000

• Premium increases as spouse ages

• SM is always the beneficiary of FSGLI policy

• Premiums deducted from service pay (shown on LES)

• See http://benefits.va.gov/insurance/fsgli.asp

Question #5 What else is important to tell service members and their families about life insurance?

In Summary • Life insurance is an important building block

for family financial security

• Life insurance policies can be temporary (term) or permanent with cash value

• The best way to calculate family life insurance needs is with a personalized analysis

• Resources exist to calculate insurance needs

• Check insurance company ratings

Recommended Action Steps • Review your current life insurance policy (if any)

• Make a list of questions for your insurance agent

• Review some life insurance calculators or worksheets (to become familiar with them)

• Do a personal life insurance needs analysis

• Visit the Web site of your state insurance regulator

• Explore available group life insurance options through your employer or a professional association

Questions? Comments Experiences?

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