Personal Finance SIXTH EDITION Chapter 13 Life Insurance

Personal Finance SIXTH EDITION Chapter 13 Life Insurance Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Chapter Objectives (1 of 2) 13. 1 Provide a background on life insurance 13. 2 Describe the types of life insurance that are available 13. 3 Identify the factors that influence insurance needs 13. 4 Review the contents of a life insurance policy Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Chapter Objectives (2 of 2) 13. 5 Discuss how to select a life insurance company 13. 6 Explain how life insurance fits within your financial plan Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Background on Life Insurance (1 of 2) • Life insurance: insurance that provides a payment to a specified beneficiary when the policyholder dies • Role of life insurance – Maintain financial support for dependents – Leave money for heirs • Psychology behind the life insurance decision – Easier to focus on happy events – Hard to pay ongoing premiums for benefit you might not need Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Background on Life Insurance (2 of 2) • Role of life insurance companies – Help clients determine the type and amount of insurance they need • Applying for life insurance – Application includes medical and lifestyle history Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (1 of 13) • Term insurance: life insurance that is provided over a specified time period and does not build a cash value – Premiums on term insurance § Paid monthly, quarterly, semi-annually or annually Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (2 of 13) – Determinants of term insurance premiums § The longer the term, the higher the premium § The older the policyholder, the higher the premium § The greater the amount of insurance coverage, the higher the premium § Premiums higher for males than females § Premiums higher for smokers § Premiums higher for those with medical problems Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (3 of 13) Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (4 of 13) Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (5 of 13) Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (6 of 13) Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (7 of 13) – Reviewing premiums on term insurance using the Internet § www. insure. com § www. insweb. com § Go to the finance section of Yahoo. com and insert the search term “insurance quotes” § By shopping online you can obtain quotes without being subjected to a sales pitch Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (8 of 13) – Decreasing-term insurance: a form of term insurance in which the benefits that will be paid to the beneficiary are reduced over time and the premium remains constant – Mortgage life insurance: life insurance that pays off a mortgage in the event of the policyholder’s death Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (9 of 13) – Group term insurance: term insurance with generally lower than typical premiums that is available to people within a defined group § Commonly employee groups Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Financial Planning Online • Go to http: //www. intelliquote. com • This Web site provides quotes from various insurance companies for a specific term insurance policy based on information that you specify. Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (10 of 13) • Whole life insurance (permanent insurance): life insurance that continues to provide insurance as long as premiums are paid; not only provides benefits to the beneficiary but also has a cash value Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (11 of 13) – Whole life insurance premiums § Can vary substantially, but influenced by the same factors as term insurance – Forms of whole life insurance § Limited payment policy: allows you to pay premiums over a specified period but remain insured for life Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (12 of 13) – Comparison to term insurance § Whole life has higher premiums § Whole life accumulates savings § Whole life premiums remain constant Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Types of Life Insurance (13 of 13) • Universal life insurance: life insurance that provides insurance over a specified term and accumulates savings for the policy holder over this time – Variable life insurance: life insurance that provides insurance over a specified term and allows policyholders to invest residual funds, after the term portion is paid, in various types of investments Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Determining the Amount of Life Insurance (1 of 5) • Income method: a method that determines how much life insurance is needed based on the policyholder’s annual income – For example, 10 times your annual income, so, using this method, a person with an annual income of $40, 000 would need $400, 000 of life insurance coverage – Easy, but doesn’t consider individual circumstances Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Determining the Amount of Life Insurance (2 of 5) • Budget method (needs method): a method that determines how much life insurance is needed based on the household’s expected future expenses – – – Annual living expenses Special future expenses Debt Job marketability of spouse Value of existing savings Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Determining the Amount of Life Insurance (3 of 5) – Using the Internet to determine your insurance coverage – Limitations in estimating need § Budget method doesn’t consider an unanticipated major illness or disability § Family income may not rise § Weak economic conditions impact income § Inflation could cause you to underestimate needs § Debt level could increase Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Determining the Amount of Life Insurance (4 of 5) • Check out the Life Happens Needs Calculator app (by Life and Health Insurance Foundation for Education) • Search for “Life Happens Needs” app on your mobile device • Helps compute the amount of life insurance you may need Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Determining the Amount of Life Insurance (5 of 5) – Distinguishing between needs and dreams § Decide what necessities must be covered for the household to survive § Consider other preferences such as college educations for children Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Contents of a Life Insurance Policy (1 of 5) • Beneficiary: person named to receive benefits of an insurance policy • Grace period • Living benefits: benefits that allow the policyholder to receive a portion of death benefits prior to death Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Contents of a Life Insurance Policy (2 of 5) • Nonforfeiture clause: allows you to receive the savings you accumulated if you terminate your whole life policy • Loans • Incontestability clause • Renewability option: allows you to renew your policy for another term once an existing policy expires Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Contents of a Life Insurance Policy (3 of 5) • Conversion option: allows you to convert your term insurance policy into a whole life policy that will be in effect the rest of your life • Settlement options: the alternative ways a beneficiary can receive life insurance benefits in the event that the insured person dies Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Contents of a Life Insurance Policy (4 of 5) – Lump-sum settlement: a single payment of all the benefits owed to a beneficiary under a life insurance policy – Installment payments settlement: the payment of the benefits owed to a beneficiary under a life insurance policy as a stream of equal payments over a specified number of years Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Contents of a Life Insurance Policy (5 of 5) – Interest payments settlement: a method of paying the benefits owed under a life insurance policy in which the company retains the amount owed for a specified number of years and pays interest to the beneficiary Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Selecting a Life Insurance Company • The specific policy that you want • Relatively low insurance premiums – Shop comparable policies • Strong financial condition – Companies rated – www. insure. com • Services • Other types of insurance – Discounts may be available Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

Financial Planning Online: How Much Life Insurance Do You Need? • Go to http: //www. prudential. com and insert the search term “life insurance needs estimator” • This Web site provides a recommendation for the amount of life insurance you should have based on your financial situation Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

How Life Insurance Fits Within Your Financial Plan (1 of 3) • Key decisions about life insurance for your financial plan are: – Do you need life insurance? – What type of life insurance is most appropriate for you? – How much life insurance should you plan for in the future? Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved

How Life Insurance Fits Within Your Financial Plan (2 of 3) EXHIBIT 13. 5 How Life Insurance Fits Within Stephanie Spratt’s Financial Plan GOALS FOR LIFE INSURANCE PLANNING 1. Determine whether I need to purchase life insurance. 2. If so, determine what type of life insurance to buy. 3. Determine whether I should purchase or add to my life insurance in the future. ANALYSIS Type of Insurance Plan Benefits Term insurance Insurance benefits provided to beneficiary. Not needed at this time since I do not have a spouse or dependents. Whole life insurance Insurance benefits provided to beneficiary, and policy builds a cash value over time. Not needed at this time. Universal life insurance Insurance benefits provided to beneficiary, and policy builds a cash value over time. Not needed at this time. Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved Status

How Life Insurance Fits Within Your Financial Plan (3 of 3) EXHIBIT 13. 5 How Life Insurance Fits Within Stephanie Spratt’s Financial Plan DECISIONS Decision on Whether I Need Life Insurance and Type of Insurance: I decided to purchase term life insurance to provide my two nieces with a college education if I die. The policy is small, and so the premium I pay is $120 per year, or only $10 per month. My reason for buying life insurance is simply to have insurance, not to build a cash value. Term insurance serves my purpose and is much cheaper than whole or universal policies. Decision on Insurance Coverage in the Future: In the future, I will need to ensure proper life insurance coverage if I have a family. I would want to ensure that my children have sufficient funds to support them and possibly even pay for their college education if I die. If I have a child, I will obtain a 20 -year term life insurance policy for $300, 000. Copyright © 2017, 2014, 2011 Pearson Education, Inc. All Rights Reserved