Here’s what you need to know about buying life insurance

Fewer Americans are buying life insurance than in the past, indicating that households could be at financial risk in the event of an unexpected death, experts said.

About half, 52%, of consumers had a life insurance policy in January 2023, down from 63% in 2011, according to a survey by Limra, an insurance industry trade group.

Data from the National Association of Insurance Commissioners, a group of state insurance regulators, shows a similar trend: By 2019, coverage will has fallen from 69% in 1998 to 59% of households.

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“It’s absolutely clear to me that there is a very large gap here,” said Scott Shapiro, U.S. insurance industry leader at KPMG. “There is a literal protection gap that leaves Americans grossly underinsured.”

The main purpose of life insurance is to provide financial security to loved ones if the policyholder dies. At that point, the beneficiaries receive a death benefit (i.e generally tax free).

That makes it “kind of a funny product: It’s something we buy and hope we never have to use,” says Matt Knoll, a certified financial planner based in Moline, Illinois.

Many Americans fail to plan ahead for their mortality, neglecting to draft wills, create a power of attorney, or designate beneficiaries for financial accounts.

Overall, the share of households with life insurance has declined “steadily” since the early 1970s, according to the NAIC.

There are likely many reasons for this decline.

First, younger generations are delaying major financial and life milestones such as getting married, buying a house and having children compared to older generations. Each is generally a major trigger for buying life insurance, experts say.

Higher homeownership and childcare costs combined with rising debt burdens (such as student loans) can make younger households less willing or able to pay monthly insurance premiums, says Knoll, a senior financial planner at The Planning Center.

The cost of insurance itself is also generally rising for consumers, Shapiro said.

In addition, life insurance policies are often not easy or quick to obtain due to factors such as medical testing for underwriting, Shapiro said.

“It’s a complex transaction,” he said.

There are also more favorable factors at play: For example, fewer consumers have sought out the tax benefits of certain life insurance policies as other tax-advantaged savings options such as 401(k) accounts and 529 plans have emerged, Knoll said.

That said, even as fewer people buy life insurance, “I think there is a need for it,” he added.

However, life insurance is not necessarily suitable for everyone. Here are some important considerations.

Consumers should consider their financial situation and the standard of living they want to maintain for dependents (such as dependents or a spouse), according to the Illinois Department of Insurance.

If the policyholder has no income, a financial shortfall may arise in paying daily household expenses, or debts and expensive items such as tuition fees.

“Who will be responsible for your funeral expenses and final medical bills? Would your family have to move? Will there be enough money for future or ongoing expenses such as child care, mortgage payments, or college?” the department said in a consumer guide.

Single people without children may also have financial obligations they want to insure themselves for, the department said. This includes funeral costs, medical bills, debts such as credit cards or student loans, and financial support for elderly parents, according to the IDOI.

There are two major types of life insurance: term and permanent insurance.

According to financial advisors, term life insurance is generally best for most consumers.

These policies are valid for a specific term, perhaps 10, 20 or 30 years. They generally have a fixed monthly premium.

The length of one’s financial obligation is a good guide to the term one should choose, Shapiro said.

For example, if a policyholder’s spouse is 35 years old and the policyholder is looking for financial coverage until his spouse retires (perhaps at age 65), the buyer may choose a 30-year term. Ensuring there is enough money for young children to go to college may mean implementing a policy that lasts about 20 years.

Permanent life insurance, such as whole or universal life insurance, is intended to last a lifetime.

It may make sense for consumers to pay for a whole life policy if they want to leave a financial legacy to charities, or reasonably expect to develop a medical condition that could make it more difficult to obtain insurance later.

Permanent insurance policies are generally more expensive and complex than a term policy, advisors say. In addition to the insurance part, for example, there is often also an interest-bearing account.

Policyholders can build cash value over time, depending on factors such as dividends or investment returns. The cash value can have different applications: to pay insurance premiums, as collateral for a loan, or as cash in case a buyer surrenders their policy in the future.

However, there is a lot of fine print and consumers should avoid buying something they don’t understand, advisers say.

Every buyer is different when it comes to hedging against financial risk, Knoll said.

Some consumers may want a policy that would pay survivors the equivalent of all future annual income for years into the future, he said. Others may want to replace only their debt or their children’s college education, or a combination of these and other costs, Knoll added.

Consumers can have life insurance coverage through their workplace. If so, assess whether additional resources are needed.

Here is An example of what a household might need, according to Jim Bradley, CFP, founder of Penobscot Financial Advisors based in Maine: “Lucy and Ricky plan to put two children through college on a budget of $400,000 and buy a house for $200,000 they did.” They have not been able to raise much for these goals. They should consider covering the shortfall, in this case $600,000, with life insurance,” he wrote.