When you apply for life insurance, underwriters take your financial health into consideration. Here’s how your income, credit, and debt impact your policy.
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One of the most important factors in determining your life insurance premiums is the underwriting process, which gauges your medical background. But aside from assessing your health, insurance companies also want to take a closer look at your financial history.
When insurers review your financial background, they want the full picture: how much you make, your credit score, any debts you have, and if you can reliably pay off that debt. But what if you’re not in the best financial health?
The good news is that you’re unlikely to be denied coverage if your finances aren’t in great shape. But some factors could affect the size of your death benefit and the cost of your monthly premiums.
Insurers cap the death benefit available to you based on your income
An adverse credit history can cause insurers to raise your premiums
Debt won’t necessarily raise your premiums, but is a good reason to have coverage
You can take a loan against some permanent policies, but if you don’t repay it you could deplete the policy’s death benefit
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Since life insurance is meant to protect your loved ones, you might be inclined to get as much coverage as you can afford. But you might be in for a surprise. Providers cap the amount of death benefit you can get based on your annual income to avoid over-insuring people. The underwriter wants to make sure you’re using the death benefit for its intended purpose— replacing your income and accounting for final expenses — instead of helping your beneficiary pad their pockets with a bigger payout than they technically need.
Insurers judge the maximum amount of coverage you should have using an income replacement table. Every company has its own table, which determines your coverage limits by assigning a multiplier to your income based on your age group. For example, if you’re 30 years old, the table might say you’re entitled to a death benefit that is 30 times your yearly income. If you’re 50, the table might set your limit at 15 times your income.
That means a 30-year-old making $45,000 per year could buy $1 million in life insurance coverage, but a 50-year-old making the same amount might only qualify for a $500,000 policy. In rare cases companies may deny you coverage if your income is below a certain threshold, typically around $20,000 per year. Providers will also cap coverage for that minimum income bracket at a set amount rather than using a multiplier.
Spouses without an income are eligible for coverage as long as their partner holds a life policy. The amount of coverage available on non-working spousal policies are typically based on their spouse’s coverage.
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While some states don’t allow insurers to use credit reports to determine premiums for homeowners and auto insurance, there are fewer restrictions around using that information to set life insurance premiums.
The underwriter will run a soft credit check when evaluating your financial health to generate an insurance score, which is similar to a credit score and used to determine if you’re at risk of missing payments. Unlike a credit score, you can’t look up or request your insurance score. Every life insurance company has their own formula for determining this score, but a few things are likely to raise flags:
It’s unlikely you’ll be denied life insurance if you have bad credit, but a history of late payments will cause concern. If you frequently miss credit card payments, it can signal that you might pose a financial risk to the insurer by missing your premium payments as well. Your rates may be higher than the typical applicant with your age and health profile who has a steady payment history.
How much you use your credit cards also factors into your insurance score. The general rule of thumb is to keep your overall credit utilization below 30%. If you have a high credit utilization ratio or carry a large balance month-to-month, providers may see that as a sign of poor money management and raise your premiums.
If you’ve ever filed for bankruptcy, expect to see higher premiums. Filing for bankruptcy drops your credit score significantly, and providers see it as a significant indicator of financial instability. Most providers will still insure you if the bankruptcy case is discharged, but you may need to submit additional financial documentation like tax returns and pay stubs.
Some insurers are more forgiving if you can prove you’re paying off debt from your bankruptcy. An insurance broker or agent can identify companies that might insure you before your case is discharged. But if you’ve filed for Chapter 7 bankruptcy, it must be discharged before most companies will consider you for a policy.
Check your state’s laws to see how you might be protected.
Accumulating credit card debt won’t do you any favors during the underwriting process, but generally speaking, having loans won’t affect your premiums or limit your death benefit. In fact, if you have student loans, a mortgage, or another form of debt, it’s important for you to have life insurance to ensure that those don’t become someone else’s responsibility after you die.
Many forms of permanent life insurance allow you to take a loan from your policy. You won’t need to explain why you need the money and the interest rates are often lower than you’d get on a bank or credit card loan, but that’s because borrowing from your policy is basically borrowing from yourself. If you’re unable to pay back the loan and interest, you’ll deplete the funds from the death benefit available to your beneficiaries when you die.
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