The starting point – 3 basic questions
Let’s be honest about this. A discussion of life insurance probably seems about as exciting as preparing a tax return or going to the dentist. But insurance is the foundation of any family’s financial success. A little effort expended to master this topic will pay substantial dividends
Most Canadians cannot afford to sustain the risk of a large financial loss, and this is true at every stage of life.
For younger people, the unexpected death of an income earner will result in the loss of a substantial portion of the family’s income. Such a loss would materially affect the family’s standard of living. This is an example of an “insupportable” risk. The fact is that most families could not hope to come through such an event unscathed.
Older people who die without adequate insurance risk jeopardizing the value of the estate they expect to pass on to their children or other heirs. Although Canada does not have any inheritance tax as such, the impact of taxes levied on registered assets (RRIFs, RRSPs) and capital gains when they pass to the next generation can be severe.
Life insurance, in its many forms, is the means of protecting against such financial risks. In exchangeor a relatively small premium, the insurance company promises to pay what may be a very large amount to the beneficiaries. This settlement will ensure that the income that has been lost can be replaced or that taxes levied can be paid, and the survivors’ debts extinguished.
But many people still wonder: Do I need life insurance, or more of it?
It’s a common dilemma. The quickest way to resolve it is to ask yourself these three basic questions:
1) If I died tonight, would anyone suffer financially?
2) Do I care?
3) Do I want to do something about it?
These questions are just a simple “decision tree” that leads you to a result based on your answers. If the answer to the three questions is “Yes”, then you do need life insurance or, more likely, to add to your existing coverage.
Most people want to provide for their families, or those who depend on them financially such as business partners or even employees. The number one goal is to provide for adequate future income. Life insurance replaces the income that will be lost if you die, unless your estate is already sufficient to look after your family’s needs.
A close second in priority is the need to protect your spouse, children, and any other dependants from large financial obligations, such as a mortgage. In the event of your untimely death, your insurance will keep a roof over their heads, free of mortgage payments. This coverage should extend to any other substantial obligations such as car loans, business loans, etc.
Third, there are some definite tax advantages. The beneficiary on your life policy will not have to dispose of family assets in order to pay all the taxes that may come due when you die. Some types of plans (e.g. universal life) allow you to keep a portion of your payments in a tax-sheltered reserve fund. A joint and last to die policy can pay the taxes on the deemed disposition of the surviving spouse’s registered plans (RRSPs and RRIFs). We’ll have more on this topic in a future article.
Finally, if you and a partner run a business together, you may want to take out a life insurance policy in the partner’s name. If he or she should die suddenly, the death benefit would allow you to buy their half of the business from the estate.
So there’s no doubt that most Canadians need life insurance coverage, and we’ve detailed some of the key advantages insurance provides. The advantage to you, the insured, is the peace of mind of knowing that your dependants will be protected financially when you’re gone.
Let’s assume you answered “Yes” to each of our first three questions. If so, you graduate to the next three:
1) Who needs the coverage? You, your spouse, both? A business partner?
2) How much coverage do you need? How can you determine this?
3) What kind of policy (or policies) should you buy? Term or permanent coverage, or some combination of both?
As you read through future articles in this module, you’ll learn all you need to know about answering these three extremely important questions. Watch for a new feature right here every month.