How Much Life and Disability Should You Have?
A few days prior to writing this article I spent an afternoon riding my motorcycle with a friend. We left Fernie and drove to Wasa Lake taking the Wardner Fort Steele Road which is nice for leisure rides as it has a lower speed limit, less traffic, a few more twists to the road and more elevation changes. At Wasa Lake, we visited a few friends, two whom I had not seen for almost twenty years. All of us have been riding motorcycles, shooting guns, boating and not taking as good of care our bodies as we should. We are all confident that we are now closer to our death date than our birth date. Wikipedia states that the fatality rate per unit of distance travelled for motorcycles is 35 times greater than a passenger car. I do try to be careful when riding my motorcycle but I know or have known many other riders who have been hurt or died even when they were careful. After the ride, I reflected on the higher risks or motorcycle riding as compared to a road trip in my car and realised that having both life and disability insurance provided financial protection for my family.
In order to financially protect our family and ourselves, we should have some life and disability insurance. The biggest factor in how much life and disability insurance you should have is how much you can afford to spend. Most insurance policies are obtained by agreeing to make a monthly payment. You can often arrange for periodic payments or annual payments if that is requested. In addition to how much insurance can you afford you should know how much income you need to replace with insurance policies. If I have an accident and I die, my life insurance policy protects my family. If I have an accident and sustain a head injury causing brain damage the disability policy protects my family.
Life insurance is purchased for the benefit of dependents and not for the person whose life is insured. You can acquire term insurance which is designed to insure your life for a specific period of time. If you do not die during that period of time no payout is made. Whole life policies are contracts that will eventually pay out. Both types fill a need and are designed to meet specific requirements. Term policies are popular when coverage is needed for a fixed time period such as when you have young children. Company-paid insurance premiums where the policy beneficiary is not the company are taxable benefits.
Life insurance premiums are tax deductible only if a creditor requires the policy as a term of the credit provided. There can be tax reasons for having whole life policies that allow investment income to be earned in the policy without immediate taxation of income. Life insurance payouts due to the death of the insured are received tax free. If you cash in a policy prior to death there can be income taxes on some amounts paid out. There are rules on the calculation of what portion of the payout is taxed and it is treated as interest income.
Disability insurance is designed to replace about 65% of your monthly income from employment or self-employment sources should you not be able to work. The most common practice is to pay the premiums with after-tax dollars. If the premium is paid with after tax dollars, the benefits received are not taxable to the recipient. Occasionally, I encounter a company that is paying the premium and not treating the amounts paid as taxable benefits. Under this method, any benefits paid are taxable income to the recipient.
Disability insurance premiums are determined by actuarial calculations and normally charged monthly. Often people will not purchase the policy due to the cost. I consider myself fortunate as I have paid my premiums for over twenty years and have not needed to make a claim and hope I never do make a claim but it is still money well spent in case I need to.
Determining the amount of life and disability coverage for you should be done through discussions with those people you are trying to protect and a licensed agent. Consideration of income levels, creditor balances, future tax liabilities, existing investment balances, and insurance all factor into the decision of how much life and disability insurance coverage you should have.
For more information please consult with your professional advisors.