Insuring for peace of mind: The importance of life insurance

4-minute read

What you'll learn

• What is life insurance?
• How life insurance works
• Determining life insurance cover amounts
• The cost of life insurance
• Other types of life insurance

What is life insurance?

The primary purpose of life insurance is to provide a lump sum payment that may support dependants and loved ones after the person insured has passed away. This financial benefit can be used to cover various expenses, including:

• Funeral costs
• Outstanding debts, such as mortgages, loans, or credit card balances
• Daily living expenses, including housing, education, and healthcare costs
• Income replacement to ensure the family's financial security

How life insurance works

When applying for a life insurance policy the applicant will stipulate or confirm the amount of life insurance required. This represents the financial benefit paid as a lump sum at claim time.

The insurer will ask a range of questions regarding health, medical history, occupation, and lifestyle to assess the application. It is important to answer these questions honestly and accurately as it may have an impact on premium costs or the ability to claim in the future.

Beneficiaries can be nominated by the policy owner once the policy has been accepted. This is who may receive the proceeds of the insurance once a claim is processed.

To ensure that a life insurance policy remains relevant to personal circumstances, it should be reviewed regularly. This is particularly important if there have been changes in life events, such as paying down a large portion of debt, getting married, having a baby, or commencing a new job. This ensures that the levels of cover continue to align with the person insured’s individual circumstances.

Determining life insurance cover amounts

The sum insured can vary drastically between individuals due to their circumstances and priorities. Consider how much beneficiaries will need and for how long if a benefit is paid due to the insured passing away. Common things to consider when determining the level of cover required are:

• Debt repayments
• Replacement income
• Housekeeper/childcare costs
• Children’s education
• Living expenses
  

Once the amount of cover needed to cover expenses is determined, there may be the possibility of reducing this by exploring any existing cover already in place. For example, the insured may already have cover in a superannuation fund. 

The cost of life insurance

The cost of a life insurance policy depends on many factors and differs from person to person. Some factors that may influence the cost of life insurance include:

Sum insured

Generally, the higher the sum insured the higher the cost of the life insurance premiums.

Health

The health and medical history of the person to be insured are important in determining the premium they will pay. If the person has any pre-existing medical conditions, this could impact the premiums to pay, the ability to take out cover or the terms on which the person may be accepted for cover.

Additional policy features

Additional features, such as an inflation protection benefit and premium freeze option, can be added to the policy but may increase the total premium to be paid.

Premium structures

The two common premium structures offered by Life Insurers are Variable Age-Stepped (previously called Stepped Premiums) and Variable Premiums (previously called Level Premiums).

• Variable Age-Stepped Premiums
  • Are calculated based on the age of the insured at each Policy anniversary.
  • As the insured person ages the premiums usually increase to reflect the increased likelihood of claimable events over time.
• Variable Premiums 
  • Are calculated based on the age of the insured at the Policy start date
  • In earlier years these premiums are generally higher than aged stepped however in later years may be comparatively less than aged stepped because the annual premium does not increase with the insured age. 
• Also available from some insurers are Fixed and Fixed Age-Stepped Premiums, which sets the premium amounts and may be reviewed after a set period (e.g. one year). 

Premiums can also change due to any tax, duty or charge or changes introduced by government, or if the insurer changes their premium rates. Both Premium structures can change for a range of other reasons, please see the relevant product PDS for more details. 

It is best to compare life insurance policies with different life insurance providers to find the right policy that fits individual circumstances.

Other types of life insurance

It is important to consider other types of life insurance that can provide a financial safety net if a person suffers an illness or injury.

Total and permanent disability insurance (TPD)

TPD insurance provides a lump sum payment if a permanent illness or injury that is suffered affects the ability to work again, after a qualifying period and the required severity of the condition set out in the policy terms or PDS are met.

Critical illness insurance (trauma cover)

Critical illness insurance (Trauma insurance) is a type of life insurance cover that provides a lump sum payment if a specified illness or injury is sustained, meeting the qualifying period and the required severity of the condition set out in the policy terms or PDS.

Income protection insurance

Income protection insurance is a monthly payment that replaces a portion of income if injury or illness prevents the ability to work and income is reduced after serving a waiting period.

It is important to understand the different options and products available and compare policies with a variety of life insurers.