Personal Finance

Term insurance is more affordable, but be aware of its drawbacks.
By Ashley Redmond | 19/06/14

Kaitlynn, 29, from Hamilton, Ontario, has been a teacher for two years, and like many millennials it took her a few years after graduation to find a job. Nonetheless, she feels lucky to be employed and is content with her role. And as an added bonus, she recently got engaged to her long-time partner.

About the Author
Ashley Redmond is the associate editor at Morningstar Canada. Her roles include writing feature articles on personal finance, video reports and commentary. A former reporter and editor at a radio station in Toronto, she is a journalism graduate of Humber College.

As the stars align for Kaitlynn, so does the nagging feeling of responsibility. Kaitlynn is the breadwinner in her relationship, and her mother is also partially dependent on her, so she is being forced to think about the long term.

"Right now if I died my fiancée and mother would struggle financially," says Kaitlynn. In order to help her family in the event that she dies unexpectedly, she is shopping around for life insurance. Her goal is to cover her debt and leave her fiancée and mother some money.

"It's more difficult than I thought it would be, and the options seem endless," She says. Indeed, deciding on a solution for insurance becomes tiresome quickly. In fact, TD Insurance released a survey revealing that 62% of Canadians would prefer to shovel snow, go to the dentist or wait in an airport security line rather than thinking or talking about insurance coverage.

Nonetheless, it's an important topic that needs to be tackled. The first decision Kaitlynn needs to make is choosing between the two main types of life insurance: term insurance or permanent insurance.

Term insurance provides coverage at a fixed rate for a specific period; generally it comes in 10-year or 20-year policies. It's relatively cheap compared to permanent insurance, especially for young people who are healthy because they present a low risk to the insurance company. The negative of term insurance is that it expires, and when it does the monthly premium shoots up.

Permanent insurance never expires, and the original monthly payment stays the same for the rest of your life. Permanent insurance falls into two categories: whole life and universal life, and most policies come with an investment component. (We'll review permanent insurance in more depth in a follow-up article to this series).

Overall, it's important to keep in mind that every single insurance policy gets more expensive with age as the risk of illness and death increases. If you want to get a quick assessment of your risk check out Manulife's risk calculator. Smokers beware: your life insurance policy will be substantially more expensive than a non-smoker's.

Here's an example of term insurance vs permanent insurance using StateFarm's insurance quote tool. After inputting all of Kaitlynn's information -- height 5'7, weight 140 pounds, and no history of smoking -- her quote for term insurance is $15.65 per month for a $250,000 policy, whereas her quote for permanent insurance (whole life) is $188.15 a month for a similar policy.

Adam Soares, financial advisor at Assante Capital Management, says for younger people like her, term insurance is often the best solution simply because it's the most affordable option. And this works out for Kaitlynn because $188.15 a month is simply not an option, she doesn't have the money.

Next, Kaitlynn needs to decide on the duration of the policy. "I want the policy for around 20 years," she says. At that point she is hoping that her fiancée's income will have increased. "But I don't know how much coverage I need."

The best way to tackle this is to figure out how much money would be required to cover her family's needs and her debt should she pass away.

There are great free tools available online like Manulife's coverage calculator, which takes assets, debts and income into consideration.

After punching in Kaitlynn's numbers -- $165,000 of debt from her mortgage, an income of $50,000, liquid assets of $8,000 in the form of an RRSP and the overall goal of leaving her fiancée and mother 20% of her income for 10 years -- she will need a $250,000 insurance policy.

Because term insurance expires, as previously mentioned, you don't want to be in a situation where you're gravely ill in between polices and have trouble renewing. To avoid this, Mark Halpern CFP and founder of illnessPROTECTION.com, suggests making sure that your term policy is renewable, so that when it expires it will renew automatically without a doctor confirming your health status.

"Make sure that your term insurance can be converted into permanent insurance," says Soares. Similar to the renewable policy, it means that you can convert your term insurance to permanent insurance without medical evidence.

Permanent insurance may not be interesting to millennials now because it's expensive, but this may change as you accumulate more wealth and assets, and it's something you need to consider since permanent insurance is cheapest now.

For Kaitlynn she's decided to go with a 20-year term insurance policy that has a renewal policy and option for conversion into permanent insurance.

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