Learn about how life insurance pays claims after death, payout options, and much more.

Although most people know that life insurance can be a key component in any complete financial plan, many are not familiar with how life insurance works. But having a good understanding of life insurance – as well as the many benefits it can provide – could allow the beneficiary and the insured to take advantage of this flexible financial tool.

Who needs life insurance?

If you have someone who is counting on you financially, then it is likely that you need life insurance. While many people assume that life insurance coverage is only necessary for those who are young and have children and / or other dependents, this is not the case.

For example, life insurance can provide funds that are needed in a long list of situations, such as:

  • Estate tax payment
  • Transfer of a business
  • Funding of a child or grandchild’s college education
  • Replacement of retirement income due to the death of a spouse (and possibly a loss or reduction in pension or Social Security income)
  • Funeral / final expenses
  • Charitable contributions

What does life insurance cover?

Life insurance can cover a wide variety of needs. For instance, while the death benefit from a policy can help with paying off debts (such as a mortgage, car loan, or credit card balances) and replacing the insured’s income, there are many other items that life insurance may cover – both after the insured dies and while he or she is still alive.

A life insurance beneficiary may use the funds for paying the insured’s final expenses – which can run in excess of $10,000 today. Death benefit proceeds can also go towards paying off other debts, creating a stream of income for a surviving spouse, family, loved ones, and just about any other need that a survivor may have. Plus, because death benefits from life insurance are income-tax-free, survivors can make use of the entire amount of the proceeds.

Life insurance may also provide “living benefits,” too. In this case, a portion of the death benefit may be accessed if the insured is diagnosed with a terminal illness and/or if they need to reside in a nursing home. (These benefits may differ from one policy to another).

In addition, the cash value from a permanent policy may be borrowed, and in turn, received tax-free. These funds could then be used for supplementing retirement income, but without having to hand over a large percentage of the funds to Uncle Sam.