When people begin to invest money, they’re usually hungry for early results. They may approach investing with the conviction of a recent convert, saving and investing as much money as they can, even to the point of neglecting other needs, such as putting life insurance before investing. This is understandable, and quite natural, particularly if you are either young or relatively new to investing.
In spite of your enthusiasm, it is important to make sure that you have a few basics covered before you begin investing. One of those basics is life insurance.
You’re Not Ready To Invest Unless You’ve Covered The Contingencies
Investment advisers and financial planners commonly recommend that before you begin investing you should have a well-stocked emergency fund. That can include anywhere from 3 to 6 months of living expenses. The purpose of the fund is to make sure that you are protected from any income disruptions or large expenses that might force you to tap your investment portfolio ahead of schedule.
The fund enables you to carry on with the business of life, while keeping your investment portfolio protected from early withdrawals.
In essence, what an emergency fund does is cover a contingency – a temporary loss of income, or the unexpected arrival of a big expense or two. A life insurance policy functions similarly as a contingency plan. It creates a basic survival plan for your family or any other dependents that you have in the event of your death. This is a fundamental need, which means you should have adequate life insurance before investing.
Future Wealth Won’t Take Care Of Your Family If You Die Before You Get Rich
There is sometimes a thought that you don’t need life insurance, since your investment portfolio will eventually grow to the point where you will be effectively self-insured. This notion is especially popular among the young, since the prospect of their own death seems so remote.
The problem with this thinking is that it may be many years before you reach the point of being anything close to being self-insured through your investment portfolio. Let’s say that right now you have $10,000 to invest, but you fully expect it to grow to over $100,000 within the next 10 years. Maybe at that point you will be something close to self-insured, but what happens if something happens to you between now and then? What happens if you die when you only have $20,000 in investments?
Future wealth will not protect your family if something were to happen to you today. That’s the whole purpose of life insurance – as a contingency to take care of your family’s financial needs before you have the money that a large portfolio will provide.
The Cost-Benefit Of Life Insurance Is Much Higher Than An Equivalent Investment
One of the biggest advantages of life insurance is that you can quite literally buy six figures in coverage for just a few hundred dollars per year. This is especially true if you are in your 20s or early 30s. You may be able to buy $250,000 in life insurance for just a few hundred dollars per year.
If you are just starting out as an investor, it will take you many years – even decades – to accumulate that much money.
There may sometimes be the thought to keep your expenses as low as possible in order to maximize the amount of money that you have available to invest. If a large life insurance policy is only going to cost you $500 or $1,000 per year, it won’t be taking much away from your investment efforts.
And the benefit that you will have as a result of paying the relatively small premium will be enormous for your family.
Life Insurance Before Investing – Just In Case Your Investment Plans Don’t Quite Turn Out
It’s natural to be optimistic when it comes to investing. In fact, optimism is virtually essential to a new investor. But it is a sad fact that investment plans don’t always turn out the way we want them to, despite our best efforts.
Stock markets crash, individual investments blowup, and sometimes we need to tap investment portfolios early for unexpected reasons. The point is, investing is never a guarantee.
And just in case it doesn’t turn out as well as you hope, your life insurance policy can back you up with a plan to cover your family in the event of your death.
Life Insurance Should Be Seen As A Form Of Investment Diversification
You’re probably well acquainted with the idea of investment diversification. But not all diversification efforts are neatly contained within an individual portfolio. Some of the best forms of diversification you can have will be outside your portfolio. This can include an emergency fund, fixed income investments (like bank assets), and real estate.
But insurance can also be a form of diversification. As discussed above, it is a fail-safe against your death, at least until the time arrives that you have enough money saved and invested that you no longer need to maintain the policy.
If you can think of life insurance as a financial instrument that complements your investment portfolio, having it will seem more logical. And not having it can seem like an exercise in being penny wise, and pound foolish.
If you are an investor, especially a new one, do you have a credible life insurance policy – just in case? If not, then you need to make sure you pick up some life insurance before investing another cent!
Want to make sure that your family is protected both now and in the future? Click below to join our mailing list and learn how to manage your finances…
Frugally Proud
Yeah, we had the basic $10k life insurance policies from our jobs when we started investing. But we didn’t have kids, so we weren’t too worried about leaving enough behind. Both of us have skills and degrees in our own right. Now that we are self-employed, we have $250,000 policies so that the person left behind could pay off the house and pay for a funeral and after party, lol. 😉
We didn’t have life insurance before we started investing. That’s only because my wife brought several mutual funds into our marriage, we both had jobs and didn’t have children early on. We continued to invest and then when the kids came along picked up our first life insurance policy. At that point, we purchased enough insurance to provide for the family until the kids reached maturity and were on their own.
Hi Brian – It sounds like you did it about right. The only thing I’d changed is that I would have taken a life insurance policy for the benefit of my wife upon marriage. That way if anything did happen the funeral costs, hold over medical expenses and some emotional resetttlement money would be available to her.
Kaleef,
If you have dependents, life insurance is needed. We no longer do and have enough to cover funeral, burial and etc. BUT, when we were young, both my spouse and I carried policies.
Great post. Wow 2 comments in and already a healthy dialogue, I love it.
My wife and I are in our early 30’s and newly married, but we have already set up life insurance policies. Future kids were definitely a factor, but so was having to put a mortgage on to one salary.
We still contribute to 401K for the company match, we still contribute to Roth IRA’s, and we still invest in the stock market. For us it was not so much choosing one first over another, but more so just life insurance being a part of our larger strategy.
Your last line puts it perfectly Carlos, life insurance being a part of a larger strategy. Hopefully, like you, most people won’t have to make a choice of either or. But if you do, life insurance should be the priority.
I completely disagree with almost all of this article…
Because you get dollar for dollar matching, 401(k) should be the first priority. Then, you base your life insurance on replacing your income for your beneficiaries for a set amount of time.
Not married = no life insurance
Married with working spouse = minimal life insurance
Married with spouse and kids = replace your income for 5 years
I have to disagree with your disagreement! While recognizing that the 401(k) has become the hallowed Holy Grail of personal finance, your first order of business has to be accounting for risks. As you say, with a family, you need to be especially covered by life insurance – and I also disagree with having only 5 years worth. There should be at least enough to cover your family until your youngest child reaches age of majority.
Understand that life insurance and a 401(k) are very different financial vehicles to accomplish very different objectives. A 401(k) is to provide for the very distant future – maybe decades away. Life insurance is to cover your dependents in the event of your death – which can happen any day! That’s why life insurance needs to be the priority.
Some things are more important than getting the most bang for your buck. I wouldn’t sacrifice my family’s survival for a company match. None of us knows how much time we have in this world. Life insurance is recognition of that fact.
Kevin,
You raise good thoughts. I concede the point.
Depending on assets that people currently have, the ability for your family to “survive” after your demise will differ drastically.
I often consider the following quote I ran across which caused me to chuckle: “Get enough life insurance to keep your wife and kids from getting thrown out into the streets, but not so much that her next husband is having a party.”
You can read more about my take on life insurance here if you have any interest: http://www.moneyahoy.com/how-much-life-insurance-do-you-need/
I LOVE that quote! I didn’t mean to tangle on the point, but the web is a place where we come to exchange ideas, even ones we don’t agree on. That’s what separates the web from the mainstream media. The web, blogs especially, are where we can debate openly, and without fear of censure. I’ve changed my own position on a lot of issues after web exchanges.
BTW Derek, your article is outstanding and provides solid direction on purchasing life insurance.