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Life insurance can help protect your family financially if anything happens to you, but it’s important to make sure you’re not overpaying for the coverage you need.
How does life insurance work?
Life insurance lets you leave a sum of money to someone you choose after you pass away.
Most people buy life insurance so that their dependents can pay for the funeral costs and any other end-of-life expenses. It's also common to buy a policy to help children pay for college or help a spouse pay off any outstanding bills.
Here's what makes up a life insurance policy:
- Term: This is the length of time the policy lasts. Some policies only cover you for a specific time period, like 10 or 20 years. These are called "term policies." Other types of policies, like whole life and universal life, cover you for the rest of your life no matter how long it is. These are called "permanent policies."
- Death benefit: This is the amount of money that would be paid to the beneficiary if you passed away. Sometimes, this is called the "face value" of the policy.
- Premiums: This is the monthly or annual payment to the insurance company to keep the life insurance policy active. If you miss a payment or decide not to pay, the life insurance policy could be canceled and you'll lose the money you paid up to that point as well as the coverage.
How to calculate your life insurance needs
The amount and type of life insurance you need depends on the kind of payout you want for your loved ones.
If you have a spouse who would need help paying the mortgage or children who would need money to go to college, you will likely want to get a policy with a larger payout.
But if you have no debt and your family wouldn't need much financial help, you could choose to get a policy just to leave a financial gift to your family, friends or a charity. Otherwise, you might decide to skip life insurance altogether.
To decide how much life insurance you need, start by adding up your current and future financial obligations. This can include expenses such as:
- Future salaries
- Mortgage balance
- Debts
- College costs
- Funeral costs
After you have figured out your financial situation, add up your current assets such as savings and college funds. Finally, subtract your current assets from the obligations. That gets you to a target amount for how much life insurance you might need.
Keep in mind that this is a rough estimate for coverage. It may be useful to purchase slightly more life insurance to compensate for unexpected financial situations that your dependents might face.
Types of life insurance
Life insurance companies will typically offer two different types of life insurance: term life insurance and permanent life insurance.
A term policy lasts for a set period of time before expiring, while permanent plans stay active for your entire life. Some permanent life insurance policies also have a cash value component that grows as you make premium payments.
Term life insurance | Permanent life insurance | |
|---|---|---|
| Period of coverage | Specified term, usually one to 30 years | Lifelong |
| Cash value | No | Yes |
| Average monthly premium | Cheap | Expensive |
Depending on your situation and what the purpose of your life insurance is, the type of life insurance that you need will change.
For example, if you are looking for a cheap policy to cover future financial obligations like college tuition, then choosing a term life insurance policy with a death benefit that matches the total tuition may be the best option. But if you have Type 1 diabetes and have had problems with getting approved for life insurance, a permanent policy like guaranteed acceptance life insurance could be the best option for coverage.
Average cost of life insurance policies
The cost of your life insurance policy depends on a variety of factors including your health, age and occupation. However, the biggest factor is whether or not you smoke.
The average cost of life insurance for smokers is 306% higher than the cost of policies for nonsmokers.
Average cost of life insurance for nonsmokers vs. smokers
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About the Author
Matt Timmons
Former Lead Writer
Matt Timmons is a former Lead Writer on the insurance team at ValuePenguin, where he writes in-depth and timely pieces helping find the right coverage for them.
He covered insurance at ValuePenguin between 2018 and 2026, specializing in auto and home insurance, as well as life insurance. He paid special attention to the EV insurance market, where prices are much higher than for gas cars.
Before he started writing about personal finance, Matt wrote about professional skills and online tools at an e-learning company.
How insurance helped Matt
During freshman orientation in college, Matt's iPod was stolen off his table while he was eating lunch. Luckily, he'd bought a college insurance plan the day before and he had money to buy a replacement before classes started.
Expertise
- Auto insurance
- Home insurance
- Insurance rate analysis
- Life insurance
Referenced by
- CNBC
- Miami Herald
- Yahoo! Finance
Education
- BA, Wesleyan University
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