I want to take a minute to hopefully explain something that has confused many throughout the years. Sadly, confusion can lead to taking the “wrong” type of life insurance, which can cause problems that are hard or impossible to correct. It would be easier for most if there were only one type of life insurance. Maybe not better in the long run, but easier.
Life insurance has been around for a very long time, even predating Larry King(!) But it’s evolved a lot over the 200 years it’s been around. At its core, life insurance is a contract where a person makes small structured payments over time to a company that will make a larger benefit payment to another person, when the paying person passes, or, on a certain date. In doing this, the company takes a risk, hoping/assuming the covered person makes a fair amount of payments that the company can use to invest to make a profit.
Today, there is a bewildering variety of different types of life insurance to choose from. To keep this explanation from stretching out to more than 5000 words, I will only cover some of the most common forms of coverage that people normally encounter.
“Term life” is heavily advertised in print and on the radio. It’s generally the cheapest form of life insurance available because it has an expiration date, like a jug of milk. (This is the type of coverage that employers offer their employees, because it costs the employer less to offer. And when you change jobs or retire, you give up the policy). The trouble comes when the policy’s expiration date arrives before your body’s own expiration date does. This type of insurance is fine and has a legitimate purpose when used appropriately. Younger people use this type of coverage to help with mortgage and college expenses in the event of a person passing in middle-age. But I’ve seen countless instances where people have taken this type of plan, who to their surprise- find out years later that their term is ending or their payments are going through the roof. When a “term” -which is commonly 5, 10, or 20 years- ends, the insurance company can offer to continue to cover the individual at a higher rate. Usually much, much higher. Sometimes 10 or 20 times what the original payment was! But term insurance policies generally don’t cover past age 75 or 80. So when a person is turning 80 and gets a notice that their term life insurance is ending, they are left with trying to get another type of life insurance, usually “whole life”, or go without life insurance. And there is no refund of what you paid for years and years. It has no cash value to take with you when you end your payments. It is literally temporary insurance, which is fine if you are 42 years old and have a mortgage that is temporary. Some people have several types of life insurance at the same time.
“Universal life” is another common type of life insurance, but isn’t advertised as much as term life. It usually allows the owner to make flexible payments, and have the ability to later increase or decrease the death benefit to fit their needs. There are many different types of Universal life insurance. Some of them even depend on or are affected by the stock market. This “variable” type shouldn’t be entered into lightly, since there is a risk of financial loss to the insured involved. In general, people who want a larger amount of coverage and flexibility of payments and benefits should investigate Universal type coverage. Universal Life does accumulate a cash value over time, which can be used for different things.
The other common type that is found in advertisements is “Whole life”. Whole life plans can have death benefits that range from $2,000 to 1 million dollars or more, and have payments that normally don’t change or go up. The death benefit stays the same no matter how long you live, at least to about age 100, as long as premiums are being paid. And if you live past it’s maturity date, you get a check for the death benefit amount while you are alive. This type of policy also accumulates a “cash value” over time. This cash value can be borrowed against or taken out completely if the policy is ended. Even people with health issues can be considered for a version of this called “Graded Benefit” whole life. The “graded” part means that the full death benefit is not available until the start of the third year after the policy is taken. It’s a sort of probation period where the death benefit, if needed in the first or second year, is roughly equal to the premiums paid in plus some interest. The applications are simplified, and these policies usually don’t require the applicant to get a physical or give a blood specimen during underwriting. These graded benefit policies usually allow death benefits of between $2,000 to $10,000.
If it’s time to start thinking about getting some life insurance, be sure to talk with a professional who can help match your needs and budget to the right type of policy, so you don’t get a rude surprise later in life.
Written by Ken Kitchen for HRC Insurance Services, Inc.