Talking about life insurance can be a bit dull or morbid, depending on your point of view. But it doesn’t have to be complicated.
And it’s important to grasp the basics, especially if you have a partner or kids who depend on your income.
The truth is you don’t really need life insurance while you’re single — at least not very much — but once you start a family, it’s time to get into the game. That’s when you should plan a gift that will help your loved ones pay the mortgage, make car payments, afford daycare and save for university, just in case you pass away sooner than you expect.
Sure, you won’t get a shopper’s high from buying life insurance, but there’s a more important perk to consider: peace of mind. Like a new roof, you’ll never touch or see your policy, but it’s always there to protect your family when they need it.
What is life insurance?
Here’s the deal: In exchange for regular payments during your life, the insurance company of your choice will guarantee that a predetermined lump sum or amount of money will be paid out to your loved ones after your death.
Formally called a death benefit, this payout will help cover the cost of living for your loved ones after you pass away.
Life insurance is mostly designed for people with dependents, but single people can buy some, too. You might need $10,000 or more on hand to pay for a proper funeral and save your parents, friends and siblings from bearing the burden of your last hoorah.
And rest assured, your loved ones won’t have to report life insurance payouts as taxable income, they are basically tax-free.
Decoding the lingo
Before you buy a policy, online or in-person, these are the buzzwords you need to know:
The policy is your agreement with the insurance company.
The policyholder is you, or the person who owns the insurance. You can buy policies on behalf of loved ones, too.
Premiums are the regular payments made to the insurance company to maintain your policy. They are generally paid monthly, quarterly, bi-annually or annually.
The beneficiary is the person who will receive your death benefit. You can also divide up the payout among several beneficiaries.
Now that you can speak the language, let’s look at the two main types of life insurance out there: term and “perm.”
Types of life insurance in Canada
Term life insurance
As the name suggests, term life insurance covers you for a specific period of time. Terms usually range between 10 to 30 years.
So when you get a policy with a 20-year term, the insurance company will pay your beneficiaries if you die within the next 20 years. And with most policies, your premiums won’t increase during that time.
Term life insurance is the most affordable option. If you’re young and healthy, you could get a policy worth $100,000 for the price of a large pizza each month. However, signing up in your golden years would lead to much higher insurance costs, as you’re a much higher risk.
This option is great if you feel you only need coverage for a set period — say, until the home is paid off and the kids move out.
If you change your mind later in life, many term policies can be converted to permanent ones. And keep an eye out for “unconditional renewability,” which means you don’t need to take another medical exam if you decide to start another term.
Permanent life insurance?
Permanent or “perm” life insurance provides lifelong coverage. Like with term life insurance, your premiums are typically locked in — but they’ll be a lot higher at first. Maybe even 10 times higher.
After all, you will die someday, so as long as you keep your policy active, the insurance company will eventually have to pay out. And you might be locking in your rates for 70 years, not 10 or 20 years.
There are three main types of permanent life insurance coverage:
Term to 100
Don’t be thrown by the word “term,” as this uniquely Canadian product is a form of permanent policy.
Your premiums stay the same until you turn 100 years old, at which point your coverage becomes free of charge.
Unlike other permanent policies, Term to 100 policies don’t have a cash value or investment component. They’re the simplest, purest form of long-term coverage you can buy.
Whole life insurance
Your premium pays for your insurance coverage plus an investment portfolio that can grow your money over time. The insurance company manages that portfolio for you, aiming for low risk and moderate growth. Those investments are also sheltered from taxation.
Whole life insurance policies can “participating” or “non-participating.” With a participating policy, you’ll share in the company’s profits in the form of dividends, which you can cash out, use to pay your premiums or boost your death benefit.
Lastly, your premiums and earnings will slowly increase your policy’s “cash surplus value” over time.
You can use this value in two ways. First, you can use it as collateral in a low-interest loan. You’ll be given a sum of money no greater than your cash value and agree to give up some of your death benefit if you don’t pay what you owe. Second, you’ll be able to get most or all of that cash value back if you decide to cancel or “surrender” the policy.
Universal life insurance
While universal policies have plenty in common with whole life policies, they give you way more freedom with your investments. In fact, these participating policies act more like investment accounts with a life insurance component.
Instead of paying regular premiums, you can invest however much money you want into your account, and you’ll have the freedom to manage those investments as you please. Then, on a regular basis, your insurance company will deduct the cost of your actual life insurance from the account.
Instead of being locked in, you have the ability to increase or decrease your premiums (and death benefit) as you wish, according to your budget. And in addition to borrowing money through your policy, you can treat it like a savings account and pull cash out, though you’ll have to pay income tax on your withdrawals.
Because universal life insurance policies offer a lot of choices and are sheltered from taxation, wealthy Canadians often use them to invest once they’ve maxed out their TFSAs and RRSPs.
How much life insurance do I need?
The Government of Canada suggests most people should get coverage worth seven to 10 times their annual salary. However, once you get closer to buying a policy, you’ll want to look at your particular situation.
You need to account for all your debt (including mortgages and student loans), your family’s annual expenses (such as child care, groceries and transportation) and your funeral costs to get a solid estimate.
When buying term insurance, think about where you are in life.
For example, if you just had a baby, you’ll want at least a 25-year term in case you die while your little one is still in school. Or if you just bought a house with a 15-year mortgage, a term of at least 20 years will help your partner make payments on their own, even if you refinance and choose a longer amortization.
If you can’t afford the coverage you think you need, just pick an option that fits your budget. As long as you get a flexible policy, you can always size up your coverage once you have more money to spare.
How does life insurance work in Canada?
Whether you’re buying term or perm insurance, you’ll probably have to fill out a health and lifestyle questionnaire and complete a medical exam to qualify. This fact-finding process is called underwriting.
Like your debt habits determine your credit score, your bill of health defines your insurance status. The healthier you are, the more offers and better terms you get.
That said, honesty is the best policy. Your loved ones won’t receive a cent if you lie about your health and break the terms of your contract.
Don’t want to fill out a form or take a medical exam? You still have options — but these policies generally cost more, provide less coverage and may not be renewable or convertible.
How do I pick the best life insurance policy for me?
If you want to buy life insurance for the first time, all of these options can seem pretty overwhelming.
You have a lot to consider, beyond the price of your premiums. Do you need coverage for 10 years or 100? Do you want an investment component? How active do you want to be in managing it? What about your options and fees? Are you comfortable with revealing your medical history to insurers?
That’s why sites like PolicyMe exist. PolicyMe is a digital life insurance adviser that uses powerful technology to match you with the lowest-cost policy options.
You can quickly compare a bunch of reputable companies, like BMO and Manulife, and save up to 50% on your life insurance. And if you’re not sure exactly what you need, PolicyMe can walk you through or schedule a call with a licensed adviser, free of charge.
You’ve made it this far, so you have no reason to be intimidated. A little prep work now will ensure your family is protected for many years to come.