If you qualify, term life insurance is an excellent way to protect your family’s financial independence in the event of your death. However, before you sign a contract for term life insurance, here are some important things to consider.
Inflation:
Term life insurance offers a fixed payout to the policy holder’s beneficiaries in the event of his or her death. The “term” part of term life insurance refers to the length of time the policy is good for. Most term life insurance policies are available in 5 year increments from 5 years to 30 years (or more). If you purchase a fixed 20 year term life insurance policy for $500,000, you’ll pay the exact same premium each month throughout the “term” of the policy (20 years in our example).
If you die at any point during the 20 year policy, your beneficiaries will receive the face-value of the policy ($500,000). Now comes the “tricky” part…keep in mind that this “payout” is not adjusted for inflation. If you die 18 years from now (and you’ve maintained the policy) that $500,000 will not be worth the same amount as it would be today because of inflation.
If you consider inflation to be 3% per year, your $500,000 policy paid out 18 years from now would only be worth about $300,000 in today’s dollars.
Below is a chart I created that shows the declining value (in today’s dollars) of term life insurance at various rates of inflation:
Fixed Payments:
As mentioned above, your monthly payments are “fixed” with a term life insurance policy. This is good news because each year that goes by, your monthly premiums may actually seem “cheaper”. Not only is your income likely to grow as you get older, inflation will factor in and that $30 premium you’re paying today won’t seem nearly as expensive 5, 10 or 15 years from now.
It may be worth it to purchase a larger life insurance policy now to lock in a low rate to protect any salary increases you may have in the future. Additionally, locking in to a term life insurance policy now will protect you in the future should you be diagnosed with a medical condition that may prevent you from qualifying for term life insurance at the best rates.
Future Financial Needs:
If you’re 40 years old, have two kids in high school and the mortgage is less than 10 years from being paid off, you may not need a 30 year term life insurance policy. Not only will the rates be expensive (becomes someone is more likely to die between 40 and 70 than they are between 40 and 60), you simply won’t need to have a large life insurance policy “hanging over your head” once your kids are out on their own and the mortgage is paid off. Realistically, a 15 or 20 year term life insurance policy may make better financial sense unless your partner or someone else still depends on your income to maintain their standard of living .
A better options may be to opt for a 20 year term life insurance policy and deposit the difference in premiums into a retirement or other savings account (or use it to pay off debt).
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