Buford, have experienced the kind of career growth that many professionals do. “At the start, we had financial concerns,” says Reginald, 44, a plastic and reconstructive surgeon in Houston. “Eventually, though, we reached a level where we became more comfortable.”
At that point, the Bufords decided to seek expert advice about their financial future, so they consulted Cheryl Creuzot, president of Financial Strategies Group, an estate and financial planning company in Houston. Creuzot met with the Bufords several times, asked many questions and came up with a comprehensive financial plan. As part of that plan, she recommended that the Bufords increase their life insurance coverage to two policies worth $2.8 million ($2 million for Reginald and $800,000 for Deena), a substantial increase from their initial coverage of $200,000. “I had a small policy and Deena wasn’t covered,” says Reginald. “We decided that we both needed substantial coverage, to protect each other and our three children.”
For most people, life insurance is a subject they would prefer not to think about. Thoughts of mortality are never pleasant. “However, if you have loved ones, you probably will want to provide for them, and life insurance may play a key rote,” says Solomon C. Hicks, a San Diego-based insurance agent for Prudential Insurance Co. Buying life insurance is not a simple task, but the more you learn about the subject, the greater your chance of finding peace of mind at a fair price.
DECIDING HOW MUCH IS ENOUGH
First, you’ll have to decide how much life insurance you need to buy. Instead of relying on some simple formula–six times income, for example–Creuzot employs a sophisticated process to come up with a precise number. “You need to estimate all the cash needs your survivors may have after your death,” she says. These include:
* Immediate expenses. How much will your family need for funeral costs? Will appraisers have to be hired to evaluate your real estate, collectibles or shares in a private company? What legal fees are likely to be incurred?
* Debt retirement. Many people wish to give their heirs a debt-free start, so they buy enough insurance to pay off old student loans, home mortgages, auto loans and credit card balances.
* Educational funds, If you have children you’d like to send to college, provisions should be made for future expenses.
* Emergency funds. You might plan to leave your family enough money to live on for three months, for example, in case of unforeseen expenses or emergencies.
* Ongoing expenses. In addition to the above items, your survivors will need money for day-to-day living. If that amount is $4,000 per month, say, or $48,000 per year, you might aim for an overall investment portfolio of $809,476, assuming a 10% annual return plus a 4% inflation rate.
Once you have an idea of how much your loved ones will need in case of your death, you can then determine where that money will come from. Perhaps you have a retirement plan or an investment portfolio in place. You might have a second home that could be sold in order to provide some capital. Moreover, your spouse might be expected to have a certain amount of income after your death. Once you have factored in everything, life insurance can make up any shortfall.
“The entire process can be complicated,” says Creuzot. “You have to project how much your invested capital will earn in the future–I often estimate 8% per year–and you need to build in a forecast for inflation, because a family that’s spending $25,000 now won’t be spending $25,000 next year or the year after. At present, I’m using a 4% inflation rate.”
Other factors may impact your decision as well. When Bishop Clarence E. McClendon, 33, who heads the Pentecostal Church of the Harvest in Los Angeles, bought life insurance, he wanted to protect his ministry as well as his wife, three children and other family members. “To accomplish all this, he bought two policies,” says Hicks, who is McClendon’s agent. “One policy will be paid into a trust, with the amount set to provide for his family members, assuming an 8% investment return.”
McClendon’s other insurance policy is assigned to the ministry. “It’s the type of `key person’ policy many organizations have for their chief executive,” says Hicks. “We bought enough coverage to be able to pay off the ministry’s debts and hire a replacement for the bishop in case of his death.” McClendon would not identify the size of his policies.
TYPES OF INSURANCE
There are essentially two varieties of life insurance:
* Term insurance. This is basic life insurance and the least expensive kind you can buy. However, as you grow older, term insurance costs will increase.
You can buy, “annual renewable term,” with gradually escalating premiums, or “level premium term,” which locks in a rate for five, 10 or even 20 years. Recently, competition among providers has reduced the cost of term insurance, especially for level premium policies. The catch: after the level premiums are paid, you’ll have to take another medical exam if you want coverage to continue.
* Permanent insurance. These policies, which include whole life, universal life” and variable life insurance, cost thousands of dollars a year compared to term insurance, which costs hundreds. The additional premiums go into “cash value,” a tax-sheltered investment account. As you grow older, and premiums rise, earnings from the cash accumulated can be used to offset these costs. Therefore, these policies are designed to stay in place as long as you live.
Which type is best for you? “Families of moderate means should buy term insurance, which costs less,” says Creuzot.
“They generally have little need for life insurance after their children are grown and living independently.”