We are always told that we are underinsured, and from my experience from working with people I would agree with that statement. People tend to underestimate just how much money would be needed in the case that one of the parents die. Before we go any further I should provide you with a ‘trigger warning’, we will be talking about the single most traumatic event here that can happen, the death of you or your life partner. We can use phrases like passing on, or passing away, becoming deceased etc., but I find it more honest to call it by its name, hence I will be using the worth death as I expand on the topic of life insurance.
Let us start with the good news, each one of us is very unlikely to die prematurely. Traffic is getting safer, violent crime is reducing and the science around health and medicine is constantly improving. As such we are living longer and when we get ill, even seriously, we are increasingly likely to survive. This is reflected in the cost of insurance, it is getting cheaper and cheaper to get the right amount of life cover.
There are three things you should look at when you get life insurance:
1.You should insure the mortgage in full, so that you leave your spouse and children with a home that they can live in, and that no one can take away from them. Most people are on-board with this concept.
2.You should insure your young family for the loss of either your income due to death of either of you. If there is only one earner in the family the other person should still insure for an amount of regular income, as the earning parent may work less or may need to pay for more childcare. This should tie in with the period during which you would not be able to maintain a job due to the need for childcare, for some people this may be when the youngest child reaches the age of 15, or age 23, it depends on your view of what would happen if either of you died. You should work out what would need to come in to the bank account net each month and for how long.
Again, most people recognise this.
3.The bit everyone misses is what happens to your spouse’s long term financial prospects if you were to die prematurely. The answer is that they would most probably not build up sufficient assets for their own retirement. If there is no prospect for inheritances from parents then your spouse will be reliant on marrying well, with young children. This is not what we would classify as a robust financial plan! It is not an exact science to work out what is needed here, but if you assume that you can draw between 4-6% (depending on whether you can draw down on the capital) you can work out the current value of cover needed. If you wanted to have £40,000 of income you can work out a capital sum that would be appropriate. Once you build sufficient other assets you can then cancel this plan.
The good news is that if you are paying down a mortgage, and as children get progressively older and therefore the time of financial dependency reduces, we can set 1 and 2 up as a reducing liability cover. This makes them much more affordable. The other good news is that if you work for a larger company they may offer Death in Service cover. This can be used to secure the third objective. For those that run their own company, the company can then provide this benefit, tax efficiently.
We very seldom find that cost is a major obstacle. People tend to be surprised by the low cost of life cover. The obstacle is that people do not like to think about this and therefore do not take action. However, I can assure you that having that uncomfortable and distressing conversation once and putting plans into action is far better than worrying about whether you are underinsured.
In summary, life cover should only be used to cover a period of time when you do not have the financial resources. Once you have paid off your mortgage, your children are no longer financially dependent and you have generated sufficient other assets, like pensions and other assets you should no longer have a need for insurance.
I will end on one point. The best insurance is the one that you do not need to claim on, and nowhere is that truer than for life cover!