Do I Need to Insure Myself?: Understanding the True Value and Necessity of Life Insurance
The subject of insurance products such as life and disability insurance is about as exciting as death and taxes. They seem to cost a lot and, in most cases, you get nothing back. The risk events (death or disability) happen so rarely that there seems to be little value in having the insurance at all, and not ever needing to claim is your best outcome. So why buy insurance for something that probably won’t happen? On the other hand, most of us understand that “it won’t happen to me” is irresponsible and could leave your family in financial difficulty. So how do you decide what insurance you really need and whether it’s worth paying for it?
Different people have a different threshold as to how much risk they are prepared to live with (called your risk tolerance). However, regardless of your risk tolerance, there are guidelines to help decide whether you need to buy an insurance policy. The two key questions are:
- Is there a significant enough risk of the event happening?
- Can you (or your loved ones) deal with the consequences if the event happens?
What is life insurance? (it’s really death insurance)
In simple terms, life insurance pays out an amount to your beneficiaries in the event of your death if you die while the policy is in place. If a group of people, such as the employees of a company, buy life insurance together as a group (such as when it is a compulsory benefit or condition of employment), then it is called group life insurance. There is no selection in a group life insurance policy – each member of the group automatically becomes a member, not just the people who select the insurance because they have high risk. This means that group life is generally less expensive and there are no medical or other entrance requirements (other than age – most insurers will not accept members older than 65 years).
The premium for group life cover is usually based on your pensionable salary (being the portion of your cash salary that your retirement fund contribution is calculated on). This means that the life insurance benefit will also be calculated on your pensionable salary; it could be a range from 2, 3, 4 or 5 times your annual pensionable salary. 6 times your annual pensionable salary is considered to be a lot.
So, for example:
If you earn a total guaranteed package of R20,000 per month, and you (or your employer) have set your pensionable salary is 75% of that = R 15,000 per month
- If your life cover benefit is 2 times your annual pensionable salary, that means that if you die, the insurer will pay your beneficiaries R15,000 x 12 x 2 = R360,000 (before tax)
- For a member of a group life policy, you can expect to pay around 1.5% of your pensionable salary for this cover = R 225 pm.
- If you don’t die while you have the life cover in place, the money spent on your insurance premiums is gone, and you will not receive any benefit. Whereas if you contributed this money towards your retirement fund, it will be an investment in your name.
- In the event of your death, your dependents will no longer have access to your monthly income. However, what can be even more devastating for your partner is if you have any joint debt or loans as he/she will be responsible for settling this debt. Even if the debt (such as a bond) is in your name, your spouse will have to take over the repayment of the bond (otherwise your home could be repossessed).
Life cover policies can also be purchased individually, completely separate from your employer. These policies usually pay out a fixed Rand amount to your beneficiaries which may or may not increase with inflation or some other factor. Generally, these policies will require a health assessment so that the insurer can establish the degree of risk – or put another way, how likely it is that you might die. If for example, you have high cholesterol or smoke, you are more likely to die sooner than the average life expectancy, so either the insurer might refuse to insure you, or could charge you a higher premium than someone who had less risk. If you find a policy that has no health checks, then the insurer is expecting the worst and is charging everyone a premium.
How much life insurance do I need?
Both emotional states of fear (about what might happen) or denial (it won’t happen to me) are not helpful! The two important questions to help you decide whether you need to buy an insurance policy are:
- Is there a significant enough risk of the event happening? The event to consider with life insurance is your death. For all of us, death at some point is a certainty, but it is the timing that is important – is there a chance that you could die while youare covered by the policy. Yes, however safely we live, there is a risk.
- Can you (or your loved ones) deal with the consequences if the event happens? If you have dependent children or a partner or family members who are financially dependent on you, then, if your salary stopped, there would be financial consequences for them. The extent of their financial dependence will indicate how severe these financial consequences will be. If you have debts that are bigger than your savings, then leaving your family or loved ones with this debt could be financially devastating for them.
So ... if you do not have any financial dependents and you have no debt, (or if you do, it is already insured) and your estate is straightforward, so there won’t be any period of hardship for your family members, then you probably do not need life insurance at this stage of your life. If your employer has a group life policy/benefit for all its employees, then find out if you can reduce the level of cover. Also, make sure you know when the policy anniversary is (when you can make changes) and if there are any restrictions to increasing the cover if your situation changes.
On the other hand, if you have loved ones who rely on your income, and/or, you have debt that your family members or your estate would have to settle, then you need life insurance, at least to the value that if you died, your family would not find themselves in financial difficulty.
Things to remember when taking out your own life policy.
Good reasons to take out your own individual life policy is if your employer does not have a group life policy for its employees. Or if it does, the group life policy benefit is fixed and it isn’t enough for your dependents to be able to manage financially without you.
Some people also take out individual policies because even though their company has a group life policy, they don’t see themselves working there for long and they don’t want to leave and not be able to get their own insurance. This is a real concern, as if you develop a serious condition such as cancer or diabetes, you might not be able to take out life insurance, or death due to this condition might be excluded.
The best time to take out insurance is when you are young and healthy. As you get older, your premiums will increase and any complications with your health could be excluded. However, paying for a group policy through your employer and one in your private capacity could mean that you are over-insured, and having an unnecessary expense for the time that you are paying for both policies…
A better solution could be to find out if your employer's group life cover has what is called a continuation policy, meaning that you can continue with it in your own capacity after you leave. This will give you the confidence that you can continue with the life insurance policy even if you resign, and you don’t need to over-insure for the time that you are working there.
What you need to know about the fine print.
As with all insurance policies, it’s important to understand whether there are any exclusions or reasons that a policy won’t pay out before you sign up. Life policies always exclude death by suicide and some policies exclude death as a result of war (eg if you were on holiday in a country where war is declared – it happens!). If you take out a life policy privately, you may well be asked about your health, your parents health and to declare if you take part in any dangerous sports (such as skydiving or racing). It is critical that you respond to these questions truthfully. If the insurer tries to exclude a health issue or your sport from your policy, they must inform you of the exclusion – at this point you can shop around and find an alternative provider and/or negotiate. However, if it is found that you haven’t completed the form 100% accurately, the insurer could say that the cover had been granted under incorrect information. The claim could be disallowed, even though you have been paying the premium all along, and even if your death was not related to the incorrect/incomplete declaration.