How much life insurance should an individual own?

Rough "rules of thumb" suggest an amount of life insurance equal to 6 to 8 times annual earnings. However, many factors should be taken into account in determining a more precise estimate of the amount of life insurance needed. Important factors include income sources (and amounts) other than salary/earnings, whether or not the individual is married and, if so, what is the spouse's earning capacity, the number of individuals who are financially dependent on the insured, the amount of death benefits payable from Social Security and from an employer-sponsored life insurance plan, whether any special life insurance needs exist (e.g., mortgage repayment, education fund, estate planning need), etc. It is recommended that a person's insurance adviser be contacted for a precise calculation of how much life insurance is needed.

What about purchasing life insurance on a spouse and on children?

In certain circumstances, it may be advisable to purchase life insurance on children; generally, however, such purchases should not be made in lieu of purchasing appropriate amounts of life insurance on the family breadwinner(s). It is of utmost importance that the income earning capacity of the primary breadwinner be fully protected, if possible, through the purchase of the required amount of life insurance before contemplating the purchase of life insurance on children or on a non-wage earning spouse. In a dual-earning household, it is important to protect the income earning capacity of both spouses. Life insurance on a non-wage earning spouse is often recommended for the purpose of paying for household services lost at this individual's death.

Should term insurance or cash value life insurance be purchased?

Although a difficult question--one whose answer will vary depending on circumstances--several principles should be followed in addressing this issue. It must first be recognized that in any life insurance purchasing decision, there are at least two basic questions that must be answered: (a) "How much life insurance should I buy?" and (b) "What type of life insurance policy should I buy?" The question contained in (a) involves an "insurance" decision and the question contained in (b) requires a "financial" decision. The "insurance" question should always be resolved first. For example, the amount of life insurance that you need may be so large that the only way in which this needed amount of insurance can be afforded is through the purchase of term insurance with its lower premium. If your ability (and willingness) to pay life insurance premiums is such that you can afford the desired amount of life insurance under either type of policy, it is then appropriate to consider the "financial" decision--which type of policy to buy. Important factors affecting the "financial" decision include your income tax bracket, whether the need for life insurance is short-term or long-term (e.g., 20 years or longer), and the rate of return on alternative investments possessing similar risk.

How does mortgage protection term insurance differ from other types of term life insurance?

The face amount under mortgage protection term insurance decreases over time, consistent with the projected annual decreases in the outstanding balance of a mortgage loan. Mortgage protection policies are generally available to cover a range of mortgage repayment periods, e.g., 15, 20, 25 or 30 years. Although the face amount decreases over time, the premium is usually level in amount. Further, the premium payment period often is shorter than the maximum period of insurance coverage--for example, a 20-year mortgage protection policy might require that level premiums be paid over the first 17 years.

Can an existing life insurance policy be used to provide for the repayment of an outstanding mortgage loan?

Yes; the purchase of a new mortgage protection term insurance policy is usually not required by the lender. An existing policy, either term or cash-value life insurance, can be used for many purposes, including paying off an outstanding mortgage loan balance in the event of the insured's death.

Credit life insurance is frequently recommended in conjunction with the taking out of an installment loan when purchasing expensive appliances or a new car, or for debt consolidation. Is credit life insurance a good buy?

Credit life insurance is frequently more expensive than traditional term life insurance. Further, if you already own a sufficient amount of life insurance to cover your financial needs, including debt repayment, the purchase of credit life insurance is normally not advisable due to its relatively high cost.

What is the tax treatment of life insurance cash values, dividends, and death benefits?

The "interest build-up" portion of the annual increase in the policy's cash value is not taxed currently to the policyowner. Dividends generally are considered to be a "return of premium" and are not taxable to the policyowner. Although in the typical case, life insurance death proceeds will not be subject to income taxation, these proceeds may be subject to federal estate taxation. If the insured has any elements of ownership in the policy at the time of his/her death, the proceeds are includible in the insured's gross estate for federal estate tax purposes. State inheritance taxes and federal gift taxes may also apply to life insurance policies/proceeds under specific circumstances. You should contact your tax adviser regarding questions concerning the possible income, estate and gift tax consequences surrounding any life insurance that you currently own or are contemplating purchasing.

What is participating whole life insurance?

Participating (par) whole life insurance has been marketed for many years in the U.S. The participating feature allows for the payment of dividends to policyowners when actual experience justifies such payment. Substantial amounts of participating whole life insurance is still sold today, principally by the large mutuals.

I have heard a lot about universal life insurance. How is this type of life insurance different from traditional whole life insurance?

Both traditional whole life (WL) and universal life (UL) products are examples of cash-value life insurance. However, there are several important differences between these two products. While WL policies contemplate the payment of fixed, level premiums and provide for level death benefits, UL policies offer adjustable death benefits and flexible premiums that can be varied according to changing circumstances. This is a rather simplistic comparison, however, since policyowner dividends under participating WL insurance contracts can be used to offset a portion of the premium payment otherwise required; in addition, dividends can be used to increase the policy's death benefit. Because of these and other possible uses of policyowner dividends, an argument can be made that participating WL insurance possesses some (but not all) of the same flexibility/adjustability that is possessed by UL policies. Another important difference between WL and UL relates to product transparency. In UL policies, it is easy for policyowners to look at the internal operations of the policy and to examine the relationships among various policy elements (premiums, cash values, interest credits, mortality charges, and expenses) and how they interact with each other.

Which type of cash value life insurance policy, universal life (UL) or participating whole life (WL) , is a "better buy" financially?

There is no simple answer to this question. The best performing product (from a financial perspective), whether UL, WL or some other type of cash value life insurance, will likely be the one offered by the insurer that enjoys the best future experience as it relates to interest earnings, actual expenses and mortality costs. Insurers earning the highest investment income, and who also incur the lowest expenses and the lowest mortality costs, are in the best position to offer life insurance at the lowest cost. This is true whether the cash value life insurance product being offered is UL or WL. Thus, it will be necessary for prospective insureds and their advisers to carefully examine the financial aspects of each product under consideration, irrespective of whether the product is UL or WL.

What is variable life (VL) insurance, and how is it different from universal life (UL) and participating whole life (WL)?

Variable life insurance is a type of fixed-premium whole life insurance policy where changes in the policy's cash values and death benefits are directly related to the investment performance of an underlying pool of assets. Policyowners typically can choose among several investment options as to where the assets backing the policy's cash values will be invested. The various investment options offered in the contract generally possess different risk/return relationships and frequently include a money market fund, a bond fund, and one or more common stock funds. Although the policy's death benefit is directly related to the actual performance of the invested assets, the policy prescribes that the death benefit will not fall below a minimum amount (usually the initial face amount) even if the invested assets depreciate in value by a substantial amount. Because the policyowner assumes all of the investment risk, there is no similar "floor" below which cash values may fall. In recent years variable universal life (VUL) insurance has become a more popular product than VL. VUL combines features of both UL and VL and, in essence, is the flexible premium version of VL.