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A strong lifeline for a secure future
By Harriet Meyer
We spend decades working hard, climbing the property ladder and squirreling away spare cash to secure our financial futures. However, all too often we then fail to think about what impact an unexpected turn of events could have on this built-up wealth. What would happen to your family if you were to die or suffer a serious illness? While, understandably, you won't want to dwell on such a scenario, it's important to make sure you've a safety net in place to help them cope financially if the worst were to happen. Spending some time choosing the right life insurance policy, perhaps alongside other forms of cover such as critical illness, is therefore very important.
It's easy enough to understand how life insurance works - you pay your premiums, and if you die during the term of the policy, it will pay out. But while the product itself is reasonably simple, there are a number of factors you need to think about before rushing out to buy the cheapest deal. This is why it is worth getting advice. An independent adviser will bear in mind the price, but also ensure you are buying the right type and amount of cover.
For example, many people will just take out enough insurance to pay the mortgage. However, it's worth thinking what else you'll need money for should you - or the major breadwinner - die, especially if you have children. You may have other debts or school fees to pay, as well as an income to replace.
What cover to buy
How much cover you buy (known as the sum assured) will be the biggest driver of price, but the premium you pay will be based on a variety of factors, including your health, sex and age. Your payments will also depend on the type of cover you choose. There are three basic types of life insurance: term insurance; whole-of-life cover; and family income benefit.
Term insurance is the cheapest, simplest form of life cover. It lasts for a set period, paying out a lump sum if you die during this time, and is often taken out at the same time as a mortgage. Level term insurance fixes the payout at the outset, and is often bought with an interest-only mortgage, where the debt only has to be paid off on the last day of the mortgage term.
Alternatively, decreasing term insurance, which is cheaper, will see the payout fall in line with the outstanding amount on your mortgage. So, the payout reduces by a fixed amount each year, ending up at zero at the end of the term. This is often bought with repayment mortgages, where the debt falls during the mortgage term.
Whole-of-life cover, as its name suggests, pays out whenever you die, rather than only if you pass away during a fixed term. However, the premiums are reviewable, so the cost gets more expensive as you get older. And because you are certain to die while holding the policy, premiums are substantially higher than for term insurance.
There are different types of whole-of-life policy - some offer a set payout from the outset, while others are linked to investments and the payout will depend on performance. The most popular investment-linked policies are unit-linked policies, which are linked to funds, and with-profits policies which offer bonuses.
Joint insurance policies
As a couple, you have the option of taking out joint life insurance policies, which pay out on either death. However, the policy will only pay out once, leaving the surviving partner uninsured. And they would face increased costs if they then wanted to take out another policy, as they would be older than when the original cover was bought. So you should consider the drawbacks of a joint policy as well as its benefits before coming to a decision.
Instead of choosing a lump-sum payout, you could go for a policy called family income benefit, which offers a regular income
While a lump sum might sound more appealing, Matt Pitcher, a wealth adviser at IFA Towry Law, stresses that this type of life cover can actually be more relevant for many families.
Pitcher also suggests that these policies can be a useful way of insuring parents who stay at home to raise a family. However, if you still want to be able to pay off your mortgage, it is possible to mix and match and take out some term insurance to provide a lump sum and some family income benefit to cover your everyday bills.
Be honest
When you apply for life insurance, the provider will ask you detailed questions about your lifestyle, health and family history. Make sure you're completely honest about any previous conditions - and if you're in doubt, write it down - as being upfront now could pay dividends later.
Fortunately, policyholders who accidentally fail to include relevant information on their life or critical illness insurance application forms may no longer be penalised by having their claims refused.
The Association of British Insurers has introduced new guidelines about "non-disclosure". There are now three categories of non-diclosure. "Innocent" non-disclosure is where the customer acted "honestly and reasonably". "Negligent" covers those cases where the customer failed to exercise "reasonable care" when entering information on the application form. These are likely to result in a proportionate payout.
However, "deliberate, or without any care", is where the consumer has deliberately made a false statement on an application form. This would lead to the claim being declined, the policy voided and the premiums returned. An example of this could be someone who states on an application they don't smoke when they have actually been a regular smoker for years.
Many people choose to take critical illness cover alongside life insurance. This pays out if the policyholder is diagnosed with any of a specified range of serious diseases. The number of conditions covered varies from insurer to insurer, but they will include heart attack, stroke and most forms of cancer. Each policy will specify exactly the range of illnesses it covers. "Most providers offer 'menu plans' now," says Matt Morris, a policy adviser at Lifesearch. "This means you can have life, critical illness and even income protection under one policy, making the form quicker and easier to process and the premium cheaper for the customer."
Once you've chosen your policy it's also worth asking your insurer to have it written into trust. "This ensures money will be paid quickly, avoiding any probate delays, which average around six months," explains Morris. "And it will ensure the sum is paid to the right person, rather than openly to your estate."
But perhaps the biggest benefit of writing your policy in trust is that it will not become eligible for inheritance tax - fail to do this and the taxman could stand to swipe 40% of your payout.
Review your cover
Even if you already have life or critical illness insurance it's always worth taking time out to review your cover. Your circumstances may have changed - if you've moved house or had more children the chances are you'll need more cover. Equally, if your children have fled the nest or you've paid the mortgage off, you may decide you have too much cover.
The cost of life cover has fallen by more than 40% in the last five years, according to Lifesearch, so you could be paying way more than you need. This is particularly the case if you are still reasonably young and in good health. If you bought your cover from your mortgage lender you are also highly likely to save money as these deals are rarely the most competitive.
However, the greatest savings are often made if you've quit smoking since taking out the policy. A 30-year-old male non-smoker will pay just £9.38 a month for £150,000 worth of level term insurance with Aegon rising to £15.32 with the same insurer for a smoker. To qualify as a non-smoker, you need to have not consumed any tobacco, including nicotine patches, for 12 months.
Before you switch any policy, though, it's worth noting that if your health has deteriorated you may well be better off sticking with your existing policy, as your new insurer would factor your new state of health into the premium. It may still be worth shopping around for a better deal, just don't cancel your old plan before your new one is in force.
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