For families with dependent children who would be financially impacted by the death of one or more parents, life insurance can be a vital safety net to protect them from hardship and even long-term poverty.
The purpose of life insurance is to provide dependents with a lump sum to meet financial commitments, such as mortgage payments, school fees, car loans and general living expenses.
The level of cover purchased determines the size of the payout. Life insurance policies can be taken out for a fixed amount or indexed to increase annually to keep pace with inflation.
It can be tough for households with little or no life cover to maintain the lifestyle they previously enjoyed if they lose their breadwinner or even drop down to a one-income household unexpectedly.
Many Australian families are in precisely this position and would suffer a steep decline in living standards, should tragedy strike.
Why life insurance is important
Research by Rice Warner into Australia’s underinsurance gap found many families cannot meet their basic needs with their current level of life cover. In fact, the median level of life insurance cover only meets 61 per cent of basic needs. This is defined as the minimum required to pay all non-mortgage debt and sustain the current living standard until age 65 or until children reach age 21.
The reality for those who find themselves in this position is they must make significant changes to the way they live their lives. Such tough choices may include having to sell the family home and move to rental accommodation, switching children from fee-paying schools to the public system, and foregoing luxuries such as family holidays, extracurricular activities and dining out.
Individuals not previously in paid employment may be forced to return to the workforce in order to put food on the table.
Collectively, the consequences can be devastating, at a time when parents are least equipped to cope and would prefer to devote their energies to dealing with grief and supporting their children emotionally.
Why do I need life insurance: Cathy’s underinsurance story
If you're wondering what the advantages of taking out life insurance are, consider the experience of Perth stay-at-home mother, Cathy Sullivan, who found herself in dire financial straits after her husband Michael passed away unexpectedly.
While his life insurance payout enabled her to discharge the mortgage on their Tuart Hill home, there was nothing left over for the family.
With no job and seven children aged from one to 11 to support, Sullivan’s only sources of income were a widow’s pension and child endowment payments, a precursor to today’s family tax benefits, from the Department of Social Security.
"I didn’t have any life insurance myself and I used to say to Michael that if I died, there'd be no one to do the work," Sullivan says.
"As for his policy, what was good and proper when we had one child didn’t help so much when we had seven; it cleared the mortgage but that was all."
Struggling to make ends meet
The Sullivan family spent many years getting by on little more than $700 a fortnight.
"It might sound like a lot but try buying shoes and haircuts for eight people on that," Sullivan says.
Loss of the family breadwinner meant many years on a financial knife’s edge – second-hand clothes and uniforms, outings curtailed when petrol was low, months of scrimping to cover an annual camping holiday and a budget thrown into disarray when the family van broke down.
Getting to grips with the household budget and learning to stretch her funds a dozen different ways was a challenge for Sullivan.
"I was pretty panic-stricken about the finances," she says. "I hadn’t worked for years and Michael had always managed the money. Then overnight the centre of our family was gone, life was totally miserable and I realised I didn’t know how to budget. I’d just bumbled along when I was younger, got a car loan and paid that off, paid board…I managed, but it was all pretty scrambly."
Despite implementing a range of frugal measures, including menu plans and a separate bill account, and receiving assistance from family and friends and board from her older children once they started part-time jobs, things remained tight for many years.
"People sometimes gave me money and said, ‘this is not for you, this is for the children’," Sullivan says.
"I had to have a long hard think about accepting help and not being too proud to take it."