For many Americans, the idea of “life insurance” only brings to mind a simple term life insurance policy. Term life insurance is the most popular form of life insurance, but it is far from the only option on the market. In fact, insurance companies offer a wide array of life insurance products in order to meet the increasingly complex needs of their clients.
Many of today’s policies offer protection while you are still alive, and some even act like investments or tax protection vehicles. Purchasing the right policy for your specific set of circumstances is the key to using life insurance as a defensive risk-management part of your larger financial picture.
Whole Life Insurance Policies
A term life insurance policy is worth nothing until the policyholder dies, at which point the benefit is paid out to the named beneficiaries. Whole life insurance is different from term life insurance, because it possesses a cash value as well as a death benefit (as long as the premiums of the policy are paid each month). In addition, the cash value of the policy grows tax-deferred, and can even provide dividends to the policyholder.
While premiums will likely be much higher for a whole life insurance policy than a term life insurance policy, you can do a lot more with this type of insurance, including taking out loans on its cash value so you can actually use the money from your policy during your lifetime.
Risk Management Features
Many financial advisors recommend whole life insurance policies as a safety net for their clients. Because this type of insurance is so flexible, it can provide risk management protection in a variety of ways:
- Life insurance Protection – In the event of one spouse’s premature death, the beneficiary receives life insurance proceeds which have been enhanced by any remaining balance from the cash value account.
- New Home Purchase or College Funding – You can borrow from the value of your policy with a tax-free loan, making it an ideal emergency savings account when you need quick access to funds for a big purchase. (Learn Six Savvy Tips to Spend Less and Save More.)
- Income for the Future – Certain types of whole life insurance policies allow you to invest your premiums in a diverse selection of professionally managed investment vehicles, which allows your policy to accumulate tax-deferred earnings. As long as the investments do well, the value of your policy will continue to grow over time.
- Retirement Income – If you find that you need additional income to support your retirement, you can take a tax-free loan against the cash value of your whole life insurance policy and avoid income tax on policy loans.
- Portfolio Diversification – A well-structured whole life insurance policy can also add diversification to your portfolio to help you manage risk. Whole life policies offer a cash accumulation rate that is not correlated to the securities markets, so you may be inclined to invest other assets more aggressively, knowing that you have this guaranteed portion of your portfolio.
Emergency Funds
Policy owners may also be able to tap the cash value of whole life insurance policies as a safety net for emergency expenses. No approval process or collateral is required; you may request funds without having to undergo the scrutiny of a bank or credit card company. Be aware, however, that when you take out a loan against your policy, it will decrease both the policy’s death benefit and cash value by the amount you borrow (plus interest).
If you don’t pay back the loan, the amount will be deducted from the death benefit your heirs receive when you pass away. It’s important to consider your need for cash today compared to your heirs’ needs for financial protection should you die unexpectedly.
As you can tell from this article, whole life insurance can be a tricky thing, which is why it’s a good idea to discuss it with your financial advisor before you buy. Your advisor may even recommend a different form of life insurance for your particular circumstances (there are a multitude of options on the market). When it comes to your financial savings and legacy, it is always a good idea to work with a professional.
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