I have a bias. I'm not a fan of most life insurance. We all probably need some, some of us need more than others, but unfortunately the sales process and the complication of the products makes the decision process confusing and nebulous. As a creative entrepreneur, you are typically self-employed, meaning life insurance is something you have to seek out on your own. If you don't take control of this process, you might fall victim to a predatory insurance salesman.
Quick disclaimer here: not all insurance salespeople are bad, and insurance is not bad in its own right. What's most important is finding someone who has your best interest ahead of their own desire to make the highest commission possible.
Here's why you might need insurance:
1) You wish to provide for your loved ones should anything happen to you. This could include providing for income needs, college savings, and other goals.
2) You wish to pay off your debt including mortgage, student loans, or any business loans should you pass away.
3) You have an ownership in your business that will suffer a financial impact if you die.
The most common approach to buying insurance is to purchase enough coverage to pay off housing, other liabilities, college and other goals, and to replace sufficient income for your spouse or partner to get on his/her feet.
So, if you are:
Single, don't yet own a home, and don't own your car or other assets -> You likely only need a small amount of coverage for your funeral costs, if desired. Most people in this phase of life don't have life insurance.
Married, no kids, just purchased your first home -> If you are the primary or only breadwinner for your family, you might consider what the income needs of your spouse will be for the remainder of his/her life. This requires calculation, so it's best to work with a professional. Here's an illustration: if your income is $100,000 per year, and your spouse doesn't work, you might need as much as $2,500,000 of life insurance or more depending on your hopes for your spouse should you pass away. That's a lot! There are inexpensive ways to obtain this, so keep reading...
Married with kids, you own a home, you have student loans, you have financed your vehicles, you've taken out loans to start your business -> This is perhaps where life insurance is most important. If something happens to you, imagine the grief your spouse will be going through. Then pile on the debt from multiple sources he/she will have to learn to handle. It's important to make this process as easy on him/her as possible by providing an ample sum to eliminate this debt and let your family start again.
Have you decided life insurance is worth looking into? There are several types out there, and most can be customized.
Term Life Insurance This type of insurance works for most people. It includes a death benefit (say $1 million), a term (say 20 years), and a premium (say $50/month). That's right, term insurance is the least expensive option if you are healthy and young. If you are 35 and have a young family, you can purchase 30-year term policy that should last until your retirement. I generally recommend what's called level term, meaning your premiums will stay the same for the entire life of the policy. Some ways to think about term life insurance:
- How old are you? The younger you are, the easier it is to get a long term life insurance policy for a very low premium.
- How old are your kids? If they are 1, 3, and 5, your kids will be 21, 23, and 25 at the end of a 20-year term policy. Ideally that's an age where they could potentially take care of themselves. You should still consider the needs of your spouse.
- Do you like paying for things with debt, financing as much as possible? Does your spouse hate that? Term life insurance should be considered for your debt.
Whole Life Insurance This type of insurance provides a death benefit over your entire life, as well as what's called a "cash value." With this type of insurance, a portion of your premiums are invested over time, and can be accessed for tax-free loans against the policy. These typically include a smaller death benefit and higher premiums. Here are some reasons why whole life insurance might be right for you:
- You have a high income, discretionary cash, or desire unique features a term life insurance policy cannot offer.
- You are already maxing out all of your retirement accounts, and have explored all savings vehicles are available to you, and still wish to save more.
- You desire a permanent death benefit, or a death benefit that will remain in force for your life, not just 20 or 30 years.
- You would like a life insurance product with disability or long-term care waivers.
- You will have a large estate that will require a large estate tax payment. The 2020 estate size that would require this insurance is $22.36 million for married couples.
Universal Life Insurance This type of insurance is also a permanent insurance policy like whole life insurance, but has some nuances that are different from whole life. Whole life insurance typically has premiums that stay the same every year, and a guaranteed cash value, as opposed to universal life that has variable premiums and death benefits.
Most insurance policies can be customized and things called "riders" can be added to customize a life insurance policy.
Feel like this?
Here are some sample scenarios:
Do you own an interior design business? Office out of a warehouse you own, with furniture you've purchased for an eventual client's home (inventory)? Does your spouse stay at home with the kids? Get a piece of paper and add up the values of all of the assets in the business, and talk to your business partners or favorite employees about what you would like happen in the event of your death. Then consider the income you currently bring home, the current value of your mortgage and any other debt you hold, and the big goals you have for your kids. With those values written down, approach a trusted life insurance agent, or a better first step would be a fiduciary financial advisor like a Certified Financial Planner.
Do you own a graphic design business? Your only "asset" is your laptop because you work from home? This situation is a little simpler in some ways. If you feel you don't need a succession plan for your business, then consider your income level, and what would be needed for your heirs after you pass away. For a very rough estimate, you can use the retirement "rule of thumb" of 4%. As referenced in the example above, if you make $100,000 per year, then a $2,500,000 policy should allow your spouse to pull 4% (or $100,000) safely over a long period of time. This is an oversimplification, so it still makes sense to speak to a professional.
Are you fresh out of college and researching life insurance articles? Did you read somewhere that you need to buy life insurance as a self-employed person? You can probably afford to wait. Life insurance exists to protect your loved ones, so it's up to you to what extent you wish to do that.
If you and your spouse both work, and make relatively similar incomes, and strive to live off of one income, you are a financial planner's dream. But seriously, this is a scenario where you might consider waiting on insurance as well. I can see people in the insurance agency pulling out their hair over this one, but if you and your spouse believe that one of you could do OK to provide for the family without the other's income, then why insure each other's lives? This is where I am. I believe if my husband passed away or vice versa, we could individually build a career to support a family. He feels the same way too, but we don't have kids yet. I don't think it's a bad idea to look into a $1 million term policy on each other. If Clay passed away I would be devastated - it would take a minimum of several months to get to the point where I could even look at work or adulting again. In that case, life insurance would be a major comfort in a terrifying and unexpected time.
To end, I'll introduce a concept called Insurance Risk Tolerance. Each of us is different, and we all have different needs and wants. The concept of risk tolerance applies to many things in life like your investments, it reflects both your willingness, ability, and need to take risks. You can assess your life insurance needs dollar by dollar and try to pick the perfect amount, but maybe you just want more or less coverage. Some people desire more coverage "just to be safe," while others don't want to waste the money. I see clients that come in over-insured, but their "buddy" sold them the insurance so it's "OK." They refuse to cancel it because there is no way their buddy would lead them astray.
There are also a lot of good insurance agents out there who don't oversell. They can be hard to find, so I suggest asking as many questions as possible.
Is this term or permanent life insurance?
Why is this the best option for me?
How are you compensated for this policy?
Ask questions, talk to your loved ones, and decide what's right for you. My only wish and prayer is that you don't get oversold!