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If you’re looking to secure your family’s financial future, you might consider life insurance or an annuity. But maybe you still have questions about which option to choose – and what makes them different in the first place.
In this article we explain how annuities and life insurance differ and give you some practical advice to help you choose the right option for your specific situation.
What is an annuity?
An annuity is a type of contract between a policyholder and an insurance company. There are different types of annuities, but all attempt to generate a monthly income while the owner of the annuity is still alive. The amount of the pension depends on the type and the provider.
One downside to annuities is that they often charge fees, which can add significantly to costs. They can also be difficult to get rid of, and you may have to pay a hefty buyback fee if you want to disband the annuity.
Customers often buy annuities because they want the security of a guaranteed payout. Traditional stock market investing offers no guarantees, which consumers may find risky.
Unlike life insurance, an annuity only pays out during the lifetime of the owner. When you die, your pension ends. Consumers concerned about surviving their retirement savings can purchase an annuity with guaranteed payments.
“If you expect your expenses to stay stable and don’t want to worry about the ebb and flow of stocks, annuities can give you peace of mind,” said Noah Damsky, CFA of Marina Wealth Advisors.
What is life insurance?
Life insurance provides your heirs with a death benefit if you die during the policy term. If there are people in your life who depend on your income, life insurance can help them survive financially after you’re gone. Most people buy life insurance when they have a spouse or child who needs their income.
Some employers offer life insurance policies as a workplace benefit, but you can purchase life insurance through a third-party company.
Types of life insurance
There are three main types of life insurance: term, comprehensive, and universal. Understanding how the different policies work is crucial to choosing the best solution for you and your family.
term life insurance
Term life insurance is granted for a specific period of time, usually between 10 and 30 years. During this term, you pay equal monthly payments to the insurance company. If you die during the term, your heirs will receive the full payment.
The monthly premium for term life insurance depends on your age, gender, health status and other factors. The older you are, the more you pay.
According to insurance broker PolicyGenius, the average monthly premium for a 35-year-old male is $30.14 per month for a 20-year, $500,000 policy. The average monthly premium for a 35-year-old woman is $25.43 for a 20-year, $500,000 policy.
Full life insurance
Life insurance is designed to protect you for the rest of your life. Your beneficiaries are entitled to a payout as long as you continue to pay the monthly premiums.
Because whole life insurance policies are designed to last your entire life, the premiums are much more expensive than the risk life. According to PolicyGenius, a lifetime policy for a 35-year-old man with a $500,000 policy would cost $571 a month. That’s about 19 times more expensive than term life insurance.
Many financial experts argue that life insurance is unnecessary because most people don’t need insurance for their entire life. Once you stop working, your family may no longer depend on your income and may not need coverage if you die.
Like life insurance, universal life insurance lasts your entire life. However, universal living can also come with a cash value that you can borrow or withdraw while you are alive. You can also use the cash value for your monthly premium payments, but this is usually only available to you after you have paid contributions for several years.
The cash value is invested on the stock exchange, but the amount generated is capped by the insurance company. Monthly premiums for universal life insurance are similar to whole life insurance premiums.
How to choose between annuity and life insurance
Before deciding between annuity and life insurance, you need to find out what you actually want from these products. Is it money for your family if you die in your prime? Is it a nest egg to use during your golden years?
Determining your motivation is key to choosing the most appropriate product. If you’re looking to invest for retirement, a 401(k) or an Individual Retirement Account (IRA) may be a better fit than an annuity or life insurance.
Using insurance or annuities as an investment is rarely a good idea. Annuities and life insurance almost always have limits on how much you can make in a single year, which can hurt your nest egg.
“In most cases, it would be better to use investments for investments and insurance for insurance,” said financial planner Jay Zigmont of Childfree Wealth.
If you want to provide financial security for your family in the event of death, term life insurance may be the best option as the premiums are lower than comprehensive or universal insurance, allowing you to use more money for other things like investments.
As always, you should consult a financial professional when making these types of decisions.
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