Before you buy life insurance, it’s essential to familiarize yourself with the various types of life insurance and how they work. Some are easier to qualify for than others, and some offer more significant death benefits to pay for your family’s needs after you die.
Addition Financial members sometimes ask us about life insurance when they are exploring topics such as estate planning and long term care. They want to be sure to choose the right insurance plan and coverage. We asked our financial experts to explain the six types of life insurance and who should buy them. Here’s what they told us.
#1: Term Life Insurance
Term life insurance is life insurance that is in place for a specified term, usually between 10 and 30 years. The death benefit – the amount that will be paid to your beneficiary when you die – will be paid only if you die within the term of the policy.
Most term life insurance policies are level term policies, meaning that the death benefit remains the same throughout the term. Other options include a decreasing term where the amount of the death benefit decreases each year.
In terms of cost, term life insurance is often the least expensive type of policy you can buy but the standard to be approved for a policy is higher than it is for other policies. You will be required to get a full medical exam to qualify. It can be difficult for people who are near the end of their lives or who have serious pre-existing conditions to qualify for term life insurance.
Our experts pointed out that in some cases, a term life insurance policy can be converted to a whole life policy at the end of the term. The conversion comes with an increase in your premium payment that may add up to more than what you would have paid if you bought whole life from the start.
#2: Whole Life Insurance
Whole life insurance is insurance that, as the name implies, covers you for your whole life. It is a type of permanent life insurance that pays a death benefit regardless of when you die. It is also the most popular type of life insurance, representing 59% of all life insurance policies sold in the United States as of 2019. Unlike term life, you are not required to get a medical exam to buy traditional whole life insurance. You will be required to complete a medical questionnaire.
Whole life insurance is significantly more expensive than term life insurance. In some cases, the monthly premium may be ten times as much as term life. The reason for the higher cost is that there is no expiration date on whole life insurance. Provided you pay your premiums every month, the coverage will remain in place and the death benefit will be paid upon your death.
One of the things that sets whole life insurance apart from term life is that your policy will accrue cash over time. You can borrow against the cash value if you need money.
Whole life insurance is the best choice if you want to leave money to your heirs regardless of when you die. A whole life insurance policy is often part of estate planning. If you borrow against the cash value and don’t pay it back before you die, then the death benefit may be reduced. There may also be tax liability to consider.
#3: Universal Life Insurance
Universal life insurance is a hybrid product. Like whole life insurance, it is a permanent version of life insurance that pays a benefit regardless of when you die. It offers policyholders the option to alter their premium and death benefit and it costs less than whole life insurance. Underwriting requirements vary from company to company, but many use “full underwriting,” meaning that you will be required to get a medical exam to qualify.
The premiums for universal life are broken down by Cost of Insurance (COI) and cash value. The cash value is typically placed in an investment account and you may borrow money from the policy.
The two potential downsides of a universal life insurance plan are that your premiums are likely to increase as you age and you will be taxed on any withdrawals. However, if you’re willing to risk the changes in premium later in life for lower costs now, it may be a good choice.
We also recommend researching indexed universal life insurance policies as part of your type comparison.
#4: Variable Life Insurance
Variable life insurance has a lot in common with a variable annuity, where the person who holds the policy has a choice in where and how to invest their money. You can choose to invest the cash value of your policy in stocks, bonds or money market funds.
According to our experts, the biggest risk associated with variable life insurance is that if your investments do not perform well, your death benefit will decrease accordingly. There are some variable life policies that offer a minimum guaranteed death benefit in exchange for higher premiums.
There is a hybrid product known as variable universal life insurance that combines the features of universal life with variable life insurance. You may choose where to invest your money as well as having the flexibility to change your premiums and the death benefit of your policy.
#5: Simplified Issue Life Insurance
Simplified issue life insurance is insurance that is available without a medical exam. To apply, you’ll need to answer a few basic medical questions. The turnaround for coverage can often be completed in just a few days, as opposed to up to eight weeks for other life insurance policies.
Because there is no medical exam required, the cost can be quite high – in some cases, even higher than for whole life insurance. Our experts told us that the premiums are high to offset the risk being taken by the insurance company. In the absence of a medical exam, they have limited information to determine the likelihood of you dying sooner than anticipated.
Simplified issue insurance often comes with a lower death benefit than other types of life insurance. The typical range is between $5,000 and $100,000. As you might expect, your premiums will be higher if you choose a payout at the high end of the spectrum.
#6: Guaranteed Issue Life Insurance
Guaranteed issue life insurance may also be referred to as guaranteed acceptance life insurance. Like simplified issue life insurance, there is no medical exam required. You won’t even need to answer medical questions to get a policy – but there are some significant downsides to this type of life insurance.
First, the premiums for guaranteed issue life insurance are often very high. Any insurance company that offers this coverage is taking a significant risk by offering a policy without getting any medical or lifestyle information from the policyholder.
The tradeoff for those high premiums is that the death benefit is typically low, usually somewhere between $10,000 and $25,000 maximum. The intention of guaranteed issue life insurance is to provide money to pay final expenses, including a funeral, burial and related costs.
Our experts told us that they recommend guaranteed issue life insurance only if there is no other option. If you can’t qualify for other types of life insurance, then a guaranteed issue life insurance policy will at least provide your family with money to pay for your final expenses.
Expert Tips for Choosing Life Insurance
Now that you understand the six types of life insurance and how each works, here are some general tips from our experts to help you choose the right policy for your needs:
- If you’re young and healthy, term life insurance coverage is probably the best option for you. Most term life insurance policies are there to provide for expenses for dependents, including mortgage payments and school tuition. Since a term life policy is the least expensive type of coverage, it makes sense to take advantage of the low premiums in return for the peace of mind that comes with knowing that your family will have what they need.
- Laddering term life policies can be an effective way to get more coverage at an affordable price. This technique involves choosing multiple term life policies. For example, you might choose a 10-year, a 20-year and a 30-year policy. Assuming you don’t die, your coverage will decrease over time – but so, presumably, will the amount of money needed to support your dependents.
- If you can afford whole life insurance and you want to be sure your children have money after you die, then it may make sense to pay the higher premiums to get a large death benefit.
- It is possible to get life insurance even if you have pre-existing conditions, even policies that require a medical exam in some cases. The most important thing is to do what you can to decrease your risk of dying by following recommended treatment plans and leading a healthy lifestyle.
- It is rarely worth the cost to buy simplified issue or guaranteed issue life insurance. Buy these policies only if there is no other option and your family doesn’t have the money to pay your final expenses without coverage.
- If you don’t have the time or patience to research life insurance company policies yourself, consider working with either a life insurance broker or an independent life insurance agent. These professionals can help you understand your options and choose the right policy for your needs.
If you work with a financial advisor through Addition Financial’s MEMBERS Financial Services program, they can also help you make informed decisions about life insurance and other aspects of estate planning.
Buying life insurance is the best way to ensure that your dependents have the money they need to pay their expenses after you die. The advice from our experts can help you understand the six types of life insurance and which coverage is best suited to your needs.
Are you in need of financial planning assistance? Addition Financial’s MEMBERS Financial Services program is the answer. Click here to learn more.
Posted on Mar 5, 2022
Topics:
