Choosing the right life insurance for you

(Part 1)

Question: What are the criteria in choosing a good life insurance?—Jeremy Jessley Tan (@jeremyjessley) via Twitter

Answer: Let me congratulate you first for your decision to consider life insurance. Although important in personal financial planning, life insurance and other financial instruments are not really among the priorities of many Filipinos. The percentage of our insured population is so low that we are vulnerable to so much personal risks that will have devastating effects in our lives.

I’m not sure if your query relates to life insurance programs or life insurance companies so let me just try to answer both.

Before buying life insurance, it is important to determine if you need one or not. If there are people dependent on your income like your spouse, children, parents or siblings, chances are you really need one. However, if you are single and have no one who depends on your income, you probably would want to defer buying a life insurance policy until such a need arises. If you are considering buying a life insurance policy as an investment, do consider other instruments that will serve that purpose. Life insurance should be purchased because of the need to manage life’s risks, primarily against untimely death and serious physical breakdown (disability). Accumulation of life insurance fund values for investment purposes should only be a secondary reason.

It is wise to first determine the amount of life insurance you need. A professional insurance adviser should be able to do an honest-to-goodness insurance needs analysis for you or better yet, make one yourself. Here’s a simple way to determine the amount of insurance you need. Divide a sheet of paper (or excel sheet if you must) into two parts vertically. On the left side, put a heading and call it “Needs” and on the right call it “Sources.” Under the needs section, think of the expenses that need to be paid should you experience untimely death. These may include hospitalization, burial costs, outstanding obligations and about three months’ worth of expenses (label this as miscellaneous)—get the sub-total and label it as “immediate expense.” If you have any schooling children, it is best to determine their educational needs as these will be a primary concern of the people you will leave behind. A simple way to do this is to get the estimated yearly educational expenditure and multiply this by the remaining number of years until they graduate. There’s no need to compute for the future value of education as we are merely allocating an educational fund that should eventually be invested. Label the sub-total as “educational expenses.”

The third and final component of your “Needs” section involves determining the living costs of your loved ones. Multiply your monthly need by 12 to get the yearly expenses as it is easier to plan on an a yearly basis. Divide the annual amount by an estimated investment rate. The sum is a fund that can be invested to give perpetual interest payments to be used for living expenses.

On the right side of your sheet called “Sources,” try to think of all the possible sources of funds should need arise—such as cash, investments, real estate and life insurance proceeds. It may not be a good idea to include your home as a source of cash as your family will need to keep the home.

Deduct the total sources from your total needs and the balance is an amount you should consider for additional life insurance. Note that life insurance is not your only option to narrow the gap between needs and sources but it is definitely the cheapest and fastest way to bridge the gap. Life insurance can also be a temporary solution as you build your other assets like cash, investments and real estate.

Now that you know how much you need, the next thing you have to determine is what kind of life insurance you should get and from which life insurance company. I will try to answer those in the next instalment of this column.

Catch me at “No Nonsense Seminar on Finance: How to Invest for the Future” at the Garden Oases in Davao City on June 23, 2012. For inquiries, call or text Joseph Doce at 0917-7146136 or e-mail [email protected].

Randell Tiongson is an advocate of life and personal finance. He is a director of the Registered Financial Planner Institute (Phils.) To learn about personal financial planning, join the RFP Program Batch 28 on July 21-Sept 15. To get details, e-mail [email protected] or visit www.rfp.ph