Not everyone needs life insurance. Find out whether or not you do.
Life insurance has long been a part of estate planning in the United States. Although life insurance does not need to be a part of every person's estate plan, it can be very useful, especially for parents of young children and those who support a spouse or a disabled adult or child. In addition to helping to support dependents, life insurance can help solve several other common estate planning problems by:
* Providing immediate cash at death. Insurance proceeds are a handy source of cash to pay the deceased's debts, funeral expenses, and income or death taxes. (Federal estate taxes are due nine months after death, so cash to pay them doesn't have to be raised immediately.)
* Avoiding probate. The proceeds of a life insurance policy are not subject to probate unless you name your estate as the beneficiary of the policy. If anyone else, including a trust, is the beneficiary of the policy, the proceeds are not included in the probate estate, and can be quickly transferred to survivors with little red tape, cost or delay. Except when your estate will have no ready cash to pay anticipated debts and taxes, there is no sound reason for naming your estate, rather than a person, as the beneficiary of your life insurance policy.
* Reducing death taxes. When an insured person does not legally own his or her life insurance policy, the proceeds are excluded from the insured's taxable estate. This can significantly reduce death tax liability of the insured's estate. Obviously, though, this benefits only those whose estates are large enough to face death tax liability in the first place.
Most people who have no minor children or financially strapped dependents simply don't need life insurance. If you decide to purchase insurance, you should know exactly why you are buying it, and choose the best type of policy for your needs. And, of course, you should buy no more than you need.
Here are some questions to ask yourself to help evaluate your life insurance needs.
1. Long-Term Needs
To determine whether it makes sense for you to buy insurance to provide financial help for family members over the long term, consider these factors:
* How many people depend on your current earning capacity over the long term? If the answer is "none," you probably don't need life insurance.
* If you died suddenly, how much money would your dependents need, and for how long? From that amount, subtract the worth of property they would inherit from you and any amounts that will be available from public and any private insurance plans that already provide coverage. Social Security and dependents' benefits will probably be available, and you may also be covered by union or management pensions or a group life insurance plan. Also subtract any other likely sources of income, such as the help reasonably affluent grandparents would assuredly provide for your children in case of disaster. Also, remember that bright kids may get at least partial scholarships, and dependent spouses caring for young children can usually return to work at some point. Once you perform this exercise, you may find that your dependents will need little or no additional income from life insurance.
2. Short-Term Needs
Now, assess whether you need life insurance for short-term needs.
* After you die, how long is it likely to be before your property is turned over to your inheritors? If most of your property will avoid probate, there's usually little need for insurance for short-term expenses, unless you have no bank accounts, securities or other cash assets. By contrast, if the bulk of your property is transferred by will, and therefore will be tied up in probate for months, your family and other inheritors may need the ready cash insurance can provide. While a probate court will usually promptly authorize a family allowance or otherwise allow a spouse or other inheritor access to estate funds, it can still be nice to have insurance proceeds available.
* What other assets will be available to take care of immediate financial needs? Aside from buying insurance, there are other, cheaper ways of providing ready cash. For example, you might leave some money in joint or pay-on-death bank accounts, or place marketable stocks in joint tenancy or register them in beneficiary (transfer-on-death) form.
* Will your estate owe substantial debts and taxes after your death? Lawyers and financial advisors call cash and assets that can quickly be converted to cash "liquid." If your estate has almost all "non-liquid" assets (real estate, collectibles, a share in a small business, jewelry) there may be a significant financial loss if these assets must be sold quickly to raise cash to pay bills, as opposed to what they could be sold for later if there had been enough liquid money from insurance or other sources to meet all pressing bills. Obviously, if your estate has significant funds in bank accounts or marketable securities, you won't need insurance for this purpose.
Example
Alicia owns several valuable pieces of real estate and a half-interest in a profitable antique store, but she has very little cash and no life insurance. When she dies, she owes debts of $90,000 (aside from mortgages) and death taxes of $120,000.
To raise this money, her beneficiaries (technically, her executor) must sell some of her real estate or her interest in the store. Unfortunately, the country is suffering a recession, and the market value of both antiques and real estate is down. To make matters worse, canny real estate people spread the word that this is a "distress sale" to raise money for estate obligations. As a result, the price the beneficiaries receive when they sell one of the pieces of real estate is far below what they would have received had they been able to choose when to sell. Had Alicia purchased an insurance policy with a payoff at death of $210,000 or more, they wouldn't have been forced to sell in a hurry.
* If you are the sole owner of a business, how much cash will it need when you die? Do you want, and expect, that some of your inheritors will continue the business? If so, do you think there will be enough cash flow for them to successfully maintain the business? You may need insurance proceeds to cover any cash flow shortage of the business. If your inheritors won't continue the business, the questions are simpler: How much is your death likely to affect the value of the business? Will there be enough cash to keep the business alive until it is sold? Is there really anything to sell? For many personal service businesses, the answer is no -- the business ends when the person providing the service dies.
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