Looking at the Differences in the Four Main Types of Life Insurance
The information surrounding purchasing a life insurance policy can be very confusing for people. Most people must put their trust in their life insurance agent and hope that the agent is looking out for their best interests. Fortunately, when making a recommendation to purchase a specific life insurance policy, the vast majority of agents do so with their client’s best interests in mind. Unfortunately, most people will not know if an agent does not have the best intentions until it is too late.
It is recommended that you take your time to educate yourself regarding the different options. This is for the protection of everyone purchasing a life insurance contract. Understanding the fundamentals of life insurance, such as the different types of life insurance and how they all work in different ways.
By taking some time to educate yourself, you will be able to understand what it is that your life insurance agent is suggesting. The small amount of effort that this takes could change the trajectory of your life. While an agent will do their best based on the information provided, you are the only one that truly knows your situation.
Let’s take a look at the four major types of life insurance policies, what they mean, the pros and cons, and more.
What are the fundamental characteristics of a life insurance policy?
A life insurance policy is, at its core, a promise to provide financial security to your loved ones at your death. Let’s first take a look at the few key features that define how a policy fulfills that promise:
- The premium – The monthly or annual payments required to keep the policy active.
- The length of the policy, also known as the term, is the time period for which the insurer agrees to pay a death benefit. A policy is defined as a set number of years, such as 10, 20, or 30. A permanent policy lasts for the insured’s life.
- Beneficiaries: The individual or individuals who receive the death benefit. It can be given to a single person (for example, a surviving spouse), or it can be divided among a few people in proportion (e.g., a spouse could get 50 percent, and two adult children could each get 25 percent ).
By the way, a beneficiary does not have to be a blood relative. In fact, it doesn’t even have to be a person – you can leave all or part of your death benefit to an entity, such as a charitable cause if you so desire.
- The death benefit is the sum of money paid by the insurance company when the insured person dies. This benefit is typically tax-free.
- The cash value – The investment component of the policy that accumulates over time. It can be cashed out or borrowed against.
Keep in mind that a term policy does not have any monetary value. We will go over this later.
Overview of Life Insurance Types
There are different types of policies for different reasons. We are going to go over term, whole, universal and final expense Life Insurance policies to give you a better understanding of each. However, should you have questions, you should reach out to a life insurance broker.
Life insurance policies are classified into four types. Term Life Insurance, Whole life insurance, Universal life insurance, and Final expense life insurance. There are additional variations within each of these classes of life insurance policy types. But the vast majority of all policies fall into one of these four categories. Let’s take a look at all of these, the benefits of each, and the differences.
Term Life Insurance Policy
A term life insurance policy is exactly what it sounds like: Coverage for a set period of time. It is usually between 10 and 30 years. It is the one type of life insurance that has no cash value. Its sole purpose is to pay out to your beneficiaries if you die during the term.
The majority of individual term policies have level premiums, which means you pay the same amount every month. When the term expires, there is no more coverage. You must either go without or obtain a new policy. Most of the time this new policy will most likely be more expensive. The older you are, the more expensive it is to obtain a policy. Many providers, will, however, allow you to convert a term policy to permanent life insurance for a portion or all of the coverage period.
While you can obtain this policy on your own, some get it through an employer. If you get term life insurance through your employer. The rates are usually issued “on attained age,” which means they will rise over time.
Pros: It is frequently the cheapest life insurance. It is considered the most adequate for the majority of people.
Cons: If you outlive your policy, your beneficiaries will not be paid.
Whole Life Insurance Policy
A whole life policy is the most basic type of permanent life insurance. It provides coverage for the rest of your life. It includes a cash value component, as do other permanent policies. This means that you will have your premium dollars placed into a cash-value account that will grow over time. This amount will be taxed deferred and you won’t have to worry about paying gains on it.
In comparison to other types of permanent coverage, a whole life policy has three distinguishing features:
- The policy contains guaranteed cash values that grow at a fixed rate.
- As long as the guaranteed premiums are paid, the death benefit is guaranteed.
- For the rest of one’s life, the level premium remains constant.
Cash value provides several significant advantages that you can take advantage of while you are still alive. It will take a few years for it to grow into a useful amount. But once it does, you can borrow against it, You can also surrender it for cash to live on in retirement or pay your premiums.
More about whole life
When you purchase a whole life insurance policy from a mutual company, your cash value can earn annual dividends. You will receive a portion of the insurer’s profits. These profits can be used to increase the value of your policy and provide additional benefits.
There are various types of whole life insurance that are appropriate for various groups of people. Whole life insurance can also be used to:
- Ensure that money is available for family members in the event of death, an accident, or a serious illness.
- Pay off mortgages
- Liquidate business debts
- Provide funds to family members due to the death of the breadwinner in some cases.
Unlike term life insurance, which only pays out after the insured’s death, whole life insurance policies provide living benefits as well as a cash accumulation for family members after the insured’s death.
Pros: It protects you for the rest of your life and accumulates cash value.
Cons: It’s usually more expensive than term life, so if you’re looking for cheap life insurance, you should look into other options.
Whole Life Insurance vs. Term Life Insurance
The following are the primary distinctions between term and whole life insurance:
The premium: For a given death benefit – say, $100,000 – whole life premiums will be higher. There is a certainty that your beneficiaries will be paid a death benefit at some point.
The cash value: Once a term policy expires, it has no value. A whole life policy is a long-term asset. It can be used to help meet financial goals before, during, and after retirement.
The policy’s duration: A whole life policy covers you for the rest of your life. A set number of years is only covered by a term policy.
Universal Life Insurance Policy
A universal life policy is a type of permanent insurance that provides the cash value and lifetime coverage benefits of a whole life policy. However, there is a significant difference between whole life and term life. This difference is that the premiums are flexible.
With a universal policy, you can adjust the amount you pay into the policy as you see fit, within the policy’s limits. Paying less may eventually necessitate paying more in later years to maintain your coverage. This type of policy can be tailored to your specific needs. It will still provide the same level of cash value growth as whole life insurance. Having taken out a loan for a business, changing jobs, or having another child are all examples of situations where a balance of flexibility and security is required. This balance is why some people choose universal over whole life insurance.
Universal Cash Value
A universal life insurance policy has a cash value. It then grows at a rate determined by the performance of the insurance company and current interest rates. Typically there is a guaranteed minimum annual growth of 2%.
Pros: Because of the low cash value, it is less expensive than whole life and other types of universal life insurance.
Cons: If you fail to make a payment, you may lose your policy. You’d walk away with nothing because the policy has no cash value.
Final Expense Life Insurance
Final expense insurance is a type of life insurance that only covers end-of-life expenses. These expenses are things such as burial expenses or funeral expenses. The coverage is permanent in the sense that as long as you pay your premiums, the policy will remain in effect. However, these policies do not have a cash value or an investment component. Without dependent children, older people frequently purchase final expense coverage to protect loved ones.
While the premiums for these plans are typically low, the death benefit is also modest. It is not intended to provide your beneficiaries with years of financial support. Younger, healthier people who want to build cash value or a significant death benefit for their families will likely find a whole life, universal life, or term life policy to be more valuable.
Insurance with a simplified issue and insurance with a guaranteed issue
Most life insurance policies are underwritten. This means that a medical exam is required as part of the application process. This allows the provider to assess your risk of insurability. A medical exam is not required for simplified issues or guaranteed issue policies. These policies are primarily intended for older applicants or those with serious health issues. These types of applicants may not be eligible for policies that require a medical exam.
Frequently Asked Questions about Life Insurance Types
Variable universal life insurance is what it sounds like.
Variable life insurance, like universal life, is permanent insurance. It allows you to adjust your premium to account for changes in your income or expenses.
The value may rise or fall depending on the performance of those investments. Because of this flexibility – and variability – you should review your policy on a regular basis. This will help you to avoid a policy lapse. This is especially important when market conditions change.
What is the definition of permanent life insurance?
Permanent life insurance is life insurance that covers you for your entire life, as opposed to a set period of time, as is the case with term life insurance. Whole life insurance and universal life insurance are two types of permanent life insurance. They not only provide indefinite coverage but also accumulate cash value.
What is the definition of cash value life insurance?
Cash-value life insurance is a type of permanent life insurance policy. It accumulates cash value. This cash value insurance includes both universal life insurance and whole life insurance.
What is the best kind of life insurance to purchase?
The best life insurance policy for you is determined by your needs and financial situation. Term life insurance is sufficient for most people and the least expensive type of coverage. It lasts for a set period of time and guarantees a payout if you die during that time.
A permanent policy, such as whole life insurance, maybe a good fit if you want lifelong coverage. Over time, these policies accrue cash value. Once you’ve saved enough, you can begin borrowing against your policy.
Life Insurance Policy Options – Choosing the Best Policy
Whatever type of life insurance you choose, it is critical to understand the specific rules and terms of each type of insurance and each specific policy. Different types of policies may be appropriate for different people depending on their age, needs, and risk tolerance. Each type of policy has a different cost. It is critical to understand how:
- Much it will cost in the long run.
- Long each policy will be in effect.
- Long the coverage is required.