Deciding how much cover we need should be easy. For anyone in employment and with dependents, this is likely to be based on a multiple of future earnings. But, Reardon says: "Inflation can halve the value of a policy pay-out over 20 years. You also need to insure against loss of pension provision."
One commonly used formula is to insure for 10 times annual earnings, but this seems low if current interest rates are taken into account. Few 90-day deposit accounts pay more than 5 per cent gross. This suggests an insurance policy paying out up to 20 times earnings would be prudent to secure a satisfactory investment income for dependents.
An alternative route depends on estimating future costs and when they might occur. The advantage of this is that you match policies to liabilities. The cheapest, most common type of cover is "level term", where the premium, the policy's term and the amount payable on death are all fixed at outset. Buying a contract with options to alter or increase any of these will cost more. For instance, CGU offers a "conversion option", adding 15 per cent to the cost of monthly premiums for their level term cover, allowing it to be converted to any of their other life policies with the same sum assured but needing no qualifying medical examination.
For those concerned with income replacement, particularly while children are growing up, "family income benefit" (FIB) offers a low-cost alternative. FIB policies are designed to pay out a fixed amount each year over their term. Norwich Union will cover a 40-year-old non-smoking man over a term of 20 years, with benefits of pounds 20,000pa at a monthly premium of pounds 18.28. This is inexpensive, but the value of the total benefits payable decreases over the policy term.
Zurich Life offers a contract linking both the sum assured and premiums to the retail price index. This costs more at the outset, with a monthly premium of pounds 44.04 for cover of pounds 100,000 over 25 years on a man aged 40, but ensures that the real value will be maintained.
Many insurers also offer "rider" options. These bolt on to the main policy, providing "terminal" or "critical illness" cover. Terminal benefits are only payable if the life assured is judged to be dying. Critical illness benefits are payable on diagnosis of a range of serious illnesses; cancers, strokes and heart attacks are typically included, and you can make a claim under these policies even if you survive illness. Standard Life offers pounds 100,000 of level term over 25 years to a man aged 40 at a very competitive pounds 25.25pm. With critical illness cover to the same value, they charge one of the highest premiums at pounds 80.37pm.
There are other types of policy, such as increasing or decreasing term, and gift inter vivos are other examples. All of which underlines the need for independent advice - the cheapest option is not necessarily the best.
CONTRACTS AND COSTS: HOW LIFE INSURANCE DIFFERS
Contract Provider Premium Premium
Male 40 Female 30
Level Term Standard Life pounds 25.25 pounds 16.63
Convertible CGU pounds 40.60 pounds 19.90
Family Income Benefit Norwich Union pounds 18.28 pounds 10.02
Inflation linked Zurich pounds 44.04 pounds 21.28
All contracts to age 65, non-smoker rates, cover of pounds 100,000. (Source: Moneyfacts)