No one wants to think about dying, but it’s important to consider what would happen to your family and finances if you were no longer around. That is where life insurance comes in.
Similar to the way you would insure a car or your home against any damage, life cover ensures there is money available for your loved ones if you pass away.
There are different types and levels of cover, though, so you’ll need to think about which policy suits you best, and will ensure your family is well protected.
Here, Telegraph Money explains how life insurance works, and how much you can expect to pay for it.
What is life insurance?
Dealing with a death is stressful enough without having to worry about bills.
Funeral costs are now at more than £9,000 on average, while mortgage rates have increased – meaning you may have high monthly repayments to deal with.
Taking out life insurance can help ensure these bills can still be paid and that your spouse or any children are looked after and can maintain their standard of living when you die.
It is a form of protection that provides a safety net so major expenses are covered without people having to dip too much into their savings or be pushed into debt.
Dave Corbett, head of protection at Protection 1st, said: “Life insurance is about leaving a legacy and having peace of mind that you are not sending your family into poverty if you suddenly die, so that they can maintain a standard of living and retain the family home.”
How does life insurance work?
Life insurance policyholders need to pay a monthly premium to cover a payout in the event of their death.
Essentially, you are making a payment each month to secure financial support for those you leave behind – but what does life insurance cover?
The payments help secure a level of cover that is calculated to replace your lost income as well as other bills.
This may involve a lump sum or regular payments, and you can usually decide how it’s paid and whether it will cover specific costs such as a mortgage. You could even use it so that a surviving business partner could buy out your share of the business if you pass away.
Rhys Schofield, brand director at Peak Mortgages and Protection, said: “Life insurance isn’t for you but those you leave behind to make sure they don’t need to deal with a financial mess when you’re no longer around.”
There are two main types of life insurance.
Term life insurance policies promise a payout if you pass away during an agreed timeframe. These types of policies may provide level cover paying a set amount, or an increasing amount that rises with inflation.
There are also decreasing term policies, where the level of cover reduces each year. This is typically used to cover a policyholder’s falling mortgage debt at the same time.
Term life insurance is only valid until the end of a set period such as 25 years. This creates a risk that you pay for the premium for decades but there’s never a payout. While it is good news that you haven’t died, you may feel like you have paid a premium for nothing.
There will also be no payout if you then die once the policy has expired, unless you start a new one.
Alternatively, whole of life insurance policies provide a payout whenever you die as long as you have been keeping up with the premiums.
These are typically more expensive though, and there is a risk that you pay in for decades and the premiums eventually outweigh the payout.
Some policyholders may also combine life insurance with critical illness cover, which pays out if you have certain illnesses or conditions named in the policy that stops you from working.
It could be worth paying for life and critical illness separately though as you may only get one payout if they are on the same policy.
Payouts and beneficiaries
It’s up to you to choose who benefits from your life insurance payout and you will need to set this up when you take out the policy. The people who receive the payout are known as beneficiaries.
If you have a joint life policy then the payout will go to the other policyholder, typically a spouse, who then needs to decide what to do with the funds.
Alternatively, if you have a single life policy then the payout goes to your estate and it is up to you to name your beneficiaries.
You can name your beneficiaries on life insurance forms and it is important to include these details in your will to avoid any disputes. Also, don’t forget to make any changes if you get divorced.
Financial advisers also typically recommend putting a life insurance policy in trust as this removes the payout value from your estate, limiting the potential inheritance tax liability.
How much is it?
The cost of life insurance will depend on factors such as your age, health, family medical history, lifestyle and occupation.
Essentially, the higher risk you are in terms of your age, lifestyle or job, the more you pay in premiums.
Research by insurance comparison website Reassured estimates that the average life insurance premium is currently £34.43 per month, but it will depend on your personal circumstances and the level of cover and type of policy you want.
For example, a level term policy costs £37.02 per month on average but you would pay a monthly premium of £85.61 for whole of life cover.
Mr Corbett added: “In terms of cost, it is more about understanding what cover you should have and why, and the risk of not having that cover in place.
“When clients can see the value in the monthly direct debit, cost becomes less of an issue.”
How to buy life insurance
Your bank may offer life insurance, especially when you start a new mortgage.
But, as with any financial product, it is worth shopping around to compare premiums.
You can research life insurance policies through comparison websites or direct with a provider online, where you can usually check levels of cover, the premium and start the policy online.
Don’t just focus on the premium but also think about the level and type of cover you need.
Rather than using a bank or going direct, a financial adviser can help decide if you need whole of life or a term policy as well as how much cover you need based on your income, expenses, lifestyle and overall financial plan.
There is no one-size fits all policy, said Katy Eatenton, protection specialist at Lifetime Wealth Management, making it important to consider taking financial advice to suit your needs.
She said: “Imagine you do what you think is right and, because you didn’t take advice, the policy doesn’t pay out.
“I had a client arrange his own policy, which unfortunately didn’t pay out when he committed suicide, leaving his family unable to pay the mortgage and subsequently having to sell their home.”
The benefits of life insurance
- Peace of mind
- Manage and pay off debt
- Fund your own funeral
- Inheritance planning
Life insurance, like life itself, is hard to predict so you have to work out if you and your loved ones can afford the risk of not being covered. Life insurance can provide peace of mind that your family will be looked after financially, which is worth paying a premium for.
The life insurance payout can also be used to manage and even pay off debts such as a mortgage or other loans, meaning those you leave behind don’t have to worry about the payments. This could be covered through monthly payouts or a lump sum.
You may also be able to cover your own funeral costs with the payout, ensuring your family can afford your send-off.
It is also a helpful form of inheritance planning, because if life insurance is put in trust then it falls outside your estate. The payout can then be used to cover any inheritance tax bill that’s owed on your estate.
Life insurance may not be for everyone, though. If you don’t have dependents then it may not be worth paying for. It is also worth checking if your employer pays any death-in-service benefits to beneficiaries, which could cover major costs such as funerals or even our mortgage.
Samuel Mather-Holgate, independent financial adviser at Mather and Murray Financial, said: “If your missing income would affect someone you love if you were to die, there’s a case to be made that life insurance would be suitable.
“More often than not, it’s those who have had a ‘wake-up call’ that act on this shortfall and by then it could be too late.”
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