Life insurance is a useful tool to help provide financial stability for you and your family. But it can get expensive, especially as you get older. The laddering strategy aims to address this issue by providing you with the most life insurance coverage at the best rate. Laddering typically involves buying multiple term life insurance policies with staggered terms. This is cheaper than buying whole life insurance, and having multiple policies gives you the ability to change over time. Bankrate’s insurance editorial team explains a bit more about how the laddering strategy works and helps you decide if it’s right for you.
What is a ladder strategy?
In a laddering strategy, you buy multiple term life insurance policies with staggered terms, rather than one large policy to cover all your needs. This approach is designed to address the reality that most people’s financial needs decrease as they age. As your children grow and become independent, your mortgage balance decreases, and your retirement savings increase, the need for large life insurance policies often decreases.
By phasing your insurance policies, you reduce the risk of being overinsured or paying high premiums for insurance you no longer need. As your financial burden eases, you can phase out short-term insurance, ensuring adequate coverage and low costs at each stage of your life. This strategy gives you flexibility and is a smart way to pay only for the coverage you really need.
How to ladder life insurance
Now that you know what laddering is, let’s look at how this strategy works in practice. The idea is to tailor your life insurance coverage to your financial needs at different stages of life, ensuring you have the right amount of protection when it matters most without overpaying for coverage you don’t need later.
Before we go any further, please be aware that the quotes referenced below are for illustrative purposes only. Life insurance is highly individualized and prices vary widely from person to person.
Let’s look at a real-life example of how laddering can help a 32-year-old married parent with a mortgage and a growing family manage the cost of life insurance over the long term.
- $1 million, 10-year term insurance: In the early years, when a family’s financial needs are greatest, with children young and mortgages large, this insurance provides maximum protection when the family is most vulnerable. After 10 years, this coverage is reduced.
- $500,000 20-year term insurance: The policy guarantees a total of $1.5 million in coverage for the first 10 years and $500,000 for the next 10 years. Coverage decreases as children reach their 20s and become less financially dependent on their parents.
- 30-year term insurance for $100,000: The policy provides a total coverage of $1.6 million for the first 10 years, which then tapers off over time. Even when the insured is in their 60s, the $100,000 coverage remains in place, providing coverage in the event of a spouse’s premature death.
For a healthy 32 year old male, the monthly costs would be:
- $1 million, 10-year term insurance: $18.70/month
- $500,000 20-year term insurance: $19.55/month
- 30-year term insurance for $100,000: $14.28/month
In total, your monthly premiums for the first 10 years would be $52.53, decreasing as the policy term matures. If you had chosen just one 30-year policy for $1.6 million, your full-term cost would likely be much higher. In fact, here’s a comparison of costs over a 30-year period:
As the table shows, the laddering strategy clearly offers significant cost savings in the long run compared to choosing a single term policy. By purchasing multiple policies with staggered terms, the total cost over 30 years is significantly lower than purchasing a single 30-year policy for $1.6 million. Specifically, the total cost of the laddering strategy is approximately $12,077, while a single 30-year term policy would cost $32,252 for the same term. This means a savings of approximately $20,175 by utilizing the laddering approach. Not only does this method provide coverage that is customized to the insured’s changing financial needs, it also provides a much more cost-effective solution.
How to save money with the ladder strategy
A laddering strategy can save you money not because you get a discount for buying multiple policies, but because of the structure of your coverage. Splitting your coverage into smaller, tiered policies lets you choose policies that fit your life stage and needs, and generally costs more than one large policy for a long period of time.
A single long-term policy, like the $1.6 million policy mentioned above, provides continuous, large coverage over 30 years, so it requires higher premiums. Laddering policies, on the other hand, reduce costs over time. For the first 10 years, you might pay $1.6 million in coverage across three separate policies, but as the larger policies expire and your financial needs decrease, you’re left with more manageable coverage and lower monthly payments.
Tailoring your life insurance to fit your changing financial responsibilities can help you avoid overinsurance and save money in the long run, while ensuring your loved ones are properly protected during the most important times in their lives.
Consider how much life insurance coverage you need
Determining how much life insurance you need is an important step in ensuring your loved ones have financial security if something happens to you. A common approach is to estimate the total amount of coverage based on your current financial obligations and future needs. There are two main ways to calculate this:
- DIME formula: This approach considers four main components: debt, income, mortgage and education. Calculate the total by adding up your outstanding debts, your family’s income needs, your mortgage balance and your children’s future education expenses.
- 10x Income Rule: An easier way to estimate roughly how much life insurance you need is to take your current annual salary and multiply it by 10. While this method doesn’t take into account all of your financial details, it can give you a quick overview of the type of coverage you’ll want to consider.
For more accuracy, using a life insurance calculator to evaluate your unique financial situation can help you get a clearer idea of the amount of coverage you should aim for.
Who should use a life insurance laddering strategy?
Laddering life insurance policies can be a cost-effective way to ensure financial protection, but it’s not necessarily the best option for everyone. If your financial needs are stable and predictable, such as providing for dependents, paying off a mortgage, or other long-term responsibilities, laddering may make sense. However, if you’re not comfortable predicting your financial needs decades into the future, a single term policy may offer more peace of mind and simplicity.
Laddering may also not be ideal for individuals who expect to have high financial responsibilities over the long term: if you have ongoing financial obligations that will not decrease, such as caring for a dependent with special needs, maintaining consistent coverage through one comprehensive policy may be a better approach.
Laddering Life Insurance Alternatives
Laddering life insurance is a strategic way to customize your coverage to fit your changing financial needs, but it’s not the only option. Some insurance companies allow policyholders to reduce the amount of coverage or insurance premiums as they retire and have fewer financial responsibilities. This option can offer similar benefits to laddering, including no need to manage multiple policies and lower premiums as you age.
However, not all insurance companies offer this flexibility, so it’s important to check with your insurer to see if you can reduce your coverage on your current policy. This alternative may be easier for some people who prefer the convenience of sticking with a single policy rather than managing multiple term policies over time.
Regularly review your life insurance policy
Regularly reviewing your life insurance policy with both your family and your insurance agent is an important step to ensure your coverage is adjusted to fit your changing financial needs. Life circumstances can change and a policy that was initially effective may no longer provide the appropriate level of protection.
Here are some important things to look out for when reviewing your life insurance coverage:
- Conversion expiration date: If you have a term policy with a conversion option, be aware of the effective date for conversion to whole life insurance.
- Beneficiaries: Update your beneficiaries periodically to ensure they reflect your current wishes, especially after life events like marriage, divorce or birth.
- Term Insurance Expiration Date: Be aware of the expiration date of your term life insurance policy and plan for your future coverage needs.
- Insurance Coverage: Consider riders such as premium waivers and fatal accident coverage to see if they suit your situation and needs.
- Premium Rates: If you have a laddered policy, evaluate whether your premiums are still affordable or if reducing your coverage or adjusting your strategy would be beneficial.
By knowing these key points, you will be better prepared to maintain a life insurance plan that fits your financial goals and provides adequate protection for your loved ones.
