Laddering Your Life Insurance | How to Do It: If you are looking to buy life insurance, the first question you need to ask yourself is, how much life insurance do I need? The answer, however, might change from time to time, depending on your financial needs.
Table of Contents
How financial needs change over time
Your financial needs generally tend to evolve with time. The changes are usually incremental and happen at different life stages – like when you get married, when you have children, when you buy a new house, when you start a business, and so on.
Similarly, your financial needs tend to shrink as you grow older and work your way towards retirement. As you keep making monthly payments, over time, your debt burden (mortgage and other kinds of loans) reduces gradually.
Plus, as your kids grow up and head off to college, your monthly and yearly expenditures also get reduced.
With this being the case, it makes sense to adjust your policy’s death benefit from time to time. By doing so, you can make sure that at any given point, you only pay for the coverage you need – not more, not less.
Also, it’s more affordable than buying a single life insurance policy with a large death benefit, which stays unchanged throughout your policy’s term period.
Now, the question is – how do you do it? This is precisely where the concept of ‘laddering’ comes into the picture.
What is laddering and how does it work?
Laddering refers to the strategy of buying term life insurance policies with different term lengths and different coverage amounts at the same time.
Since the policies are set to expire at different times, you only pay for the amount of coverage you need throughout your different life stages.
For example, let’s say you are a 35-year-old man who is in need of coverage worth $1 million over a span of 30 years. Now, if you were to buy a 30-year policy worth $1 million, your rate would be about $75 a month, assuming you are in reasonably good health and do not have any major health problems.
At $75 a month, you have to pay $900 a year for your life insurance coverage. The total amount of premium you have to pay over a period of 30 years is $27,000.
Now, let us say you buy three separate term policies, instead of buying one larger 30-year policy.
- First policy – 10-year term with a death benefit of $500,000 ($14 a month)
- Second policy – 20-year term with a death benefit of $300,000 ($16 a month)
- Third policy – 30-year term with a death benefit of $200,000 ($21 a month)
Now the total amount of coverage is still $1 million, but the amount of premium you pay on a monthly basis differs throughout your different life stages.
How laddering saves you money
For the first 10 years, you have to pay $51 a month. At the end of the 10th year, the $500,000 policy will expire, which means you will only pay $37 a month from year 11 through 20.
At the end of the 20th year, the $300,000 policy will expire, which means you will only pay $21 a month from the 21st year until the end of the coverage period.
The total amount of premium you have to pay over a period of 30 years is $13,080.
As you can see, a 30-year $1 million term policy is likely to cost you $27,000. By laddering three separate policies, you can get the same amount of coverage over the same period of time for $13,080, resulting in savings of $13,920.
If you invest the saved amount in an index fund, you can expect significant returns over a 30-year term period, which you can use to build your retirement nest egg.
How laddering provides you with sufficient coverage
In the aforementioned example, the policies are laddered together in such a way that you always have the amount of life coverage you need.
- During the first 10 years, you are likely to have considerable financial obligations (mortgage loan, children’s education, and providing for your significant other if he or she happens to be a stay-at-home parent). So, you definitely need $1 million in coverage during this time period, which is what the laddered policies provide you with.
- During the next 10 years, you are left with $500,000 in coverage, which should be sufficient to pay off the remaining mortgage and cover your children’s educational needs if anything were to happen to you.
- During the last 10 years, you are left with $200,000 in coverage. If something were to happen to you, your spouse could use the money to pay off the remaining mortgage, take care of funeral expenses, and use the rest of the amount to settle the outstanding debts (if any), or save it for a rainy day.
Basically, the laddered approach to life insurance costs you less money and provides you with the amount of coverage you need at different points in your life. So, why aren’t more people following the laddered approach for their insurance needs? There actually is a reason.
There are many people who are not thrilled at the idea of buying multiple life insurance policies. Applying for three or four policies at the same time can be a chore, and making multiple premium payments on a monthly basis can be even more so.
This is why many people prefer the simple and uncomplicated approach of buying a single policy with a large death benefit. This is, however, not always the best approach if your aim is to save money, since you are likely to pay for coverage that you do not actually need. So, what is the solution?
Well, companies like Legal & General America offer a perfect solution which combines the simplicity of one term life policy and the savings of laddered policies.
LGA offers a term life policy that allows you to add riders for extended coverage. You can buy a base policy, which is set to last for the entire coverage period. On top of it, you can add a few riders, which are set to expire at different times during the coverage period.
For example, you can buy a base policy for $500,000, which is set to last for 30 years, and then add three different riders to your policy:
- A 20-year, $300,000 rider to pay off your mortgage loan.
- A 15-year, $100,000 rider to take care of your child’s schooling expenses.
- A 10-year, $100,000 rider to take care of your second child’s schooling expenses, if you have one.
Advantages of Term Riders
- You can add multiple riders to your policy, depending on your varying financial needs.
- Each of the riders you add to your policy can be converted to a permanent product separately during the coverage period.
- By adding riders, you are customizing your coverage which can end up saving you quite a bit of money in the long run as opposed to owning a single 30-year policy.
- Policy fees can add up significantly over time. By adding riders to your base policy, you can save on annual fees when compared to owning multiple individual policies.
- Billing is consolidated for your convenience, so you only need to make a single payment on a monthly or yearly basis.
- When a rider expires, the premium is reduced accordingly. The premium becomes less expensive as the coverage period goes on.
LGA’s term riders allow you to employ the ladder approach without actually having to buy multiple policies. The costs are significantly lower compared to what you have to pay for a 30-year term life policy or three or four different term life policies of different durations.
So, you can save up a decent amount of money, which you can invest to build a solid retirement fund.