TERM INSURANCE
- Term life insurance guarantees payment of a stated death benefit to the insured's beneficiaries if the insured person dies during the specified term.
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These policies have no value other than the guaranteed death benefit and don’t feature a savings component (as is found in permanent life insurance products).
- Term life premiums are based on a person’s age, health, and life expectancy.
- Depending on the insurance company, it may be possible to turn term life into whole life insurance.
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You can purchase term life policies that last 10, 15, 20 years, or more, and can usually renew them for an additional term.
How Term Works:
When you buy a term life insurance policy, the insurance company determines the premium based on the policy's value (the payout amount) and such factors as your age, gender, and health. Other considerations affecting rates include the company’s business expenses, how much it earns from its investments, and mortality rates for each age.
Cost of Term Life Insurance:
Term life is usually the least costly life insurance available because it offers a death benefit for a restricted time and doesn’t have a cash value component like permanent insurance (link to definition) has.
Most term life insurance policies expire without paying a death benefit. That lowers the overall risk to the insurer compared to a permanent life policy. The reduced risk is one factor that allows insurers to charge lower premiums.
Interest rates and the financials of the insurance company can also affect premiums. In general, companies often offer better rates at the "breakpoint" coverage levels of $100,000, $250,000, $500,000, and $1,000,000.
Example of Term Life Insurance:
Thirty-year-old George wants to protect his family in the unlikely event of his early death. He buys a 10-year, $500,000 term life insurance policy.
If George dies within the 10-year term, the policy will pay George’s beneficiary $500,000. If he dies after the policy has expired, his beneficiary will receive no benefit. If he remains alive and renews the policy after 10 years, the premiums will be higher than his initial policy because they will be based on his current age of 40 rather than 30.
If George is diagnosed with a terminal illness during the first policy term, he probably will not be eligible to renew the policy when it expires. Some policies do offer guaranteed re-insurability (without proof of insurability), but such features come with a higher cost.
Benefits of Term Life Insurance
Term life insurance is attractive to those with mortgages and young people with children. Parents can obtain substantial coverage for a low cost, and if the insured dies while the policy is in effect, the family can rely on the death benefit to replace lost income.
These policies are also well-suited for people with growing families. They can maintain coverage needed until, for example, their children reach adulthood and become self-sufficient.
The term life benefit may be equally useful to an older surviving spouse. However, premiums for people who wait until they are older to apply for insurance will pay higher premiums than if they’d gotten a level-term policy when they were younger.
Each insurance company sets a maximum age for their term life insurance coverage. This usually ranges from about 70 to 80 years old.
Convertible Term Life Insurance
Convertible term life insurance is a term life policy that includes a conversion rider. The rider guarantees the right to convert an in-force term policy—or one about to expire—to a permanent plan without going through underwriting or proving insurability. The conversion rider should allow you to convert to any permanent policy the insurance company offers with no restrictions.
The primary features of the rider are maintaining the original health rating of the term policy upon conversion (even if you later have health issues or become uninsurable) and deciding when and how much of the coverage to convert. The basis for the premium of the new permanent policy is your age at conversion.
Of course, overall premiums will increase significantly since whole life insurance is more expensive than term life insurance. The advantage is the guaranteed approval without a medical exam. Medical conditions that develop during the term life period cannot cause premiums to be increased. However, the company may require limited or full underwriting if you want to add additional riders to the new policy, such as a long-term care rider.
Term Life Insurance vs. Permanent Life Insurance
The main differences between a term life insurance policy and a permanent insurance policy (such as whole life or universal life insurance) are the duration of the policy, the accumulation of a cash value, and the cost. The right choice for you will depend on your needs. Here are some things to consider.
Cost of Premiums
- Term life policies are ideal for people who want substantial coverage at a low cost.
- People who own whole life insurance pay more in premiums for less coverage but have the security of knowing they are protected for life.
- People who buy term life pay premiums for an extended period, but they get nothing in return unless they have the misfortune to die before the term expires. Plus, term life insurance premiums increase with age.
Investment Value
Some customers prefer permanent life insurance because the policies typically contain an investment or savings vehicle. A portion of each premium payment is allocated to the cash value, which usually grows while the policy remains in force. Some plans pay dividends, which can be paid out in cash or left on deposit within the policy.
Over time, the cash value may grow large enough to pay the premiums on the policy. There are also several unique tax benefits, such as tax-deferred cash value growth and tax-free access to the cash portion.
But financial advisors warn that the growth rate of a policy with cash value is often paltry compared to other financial instruments, such as mutual funds. This is the source of the phrase, “buy term and invest the difference.” However, the performance of permanent insurance can be steady and it is tax-advantaged, providing additional benefits when the stock market is volatile.
Which Is Better:
Term Life Insurance or Whole Life Insurance?
It depends on your family's needs. Term life insurance is a relatively inexpensive way to provide a lump sum to your dependents if something happens to you. If you are young and healthy, and you support a family, it can be a good option. Whole life insurance comes with substantially higher monthly premiums. It is meant to provide coverage for as long as you live. As the coverage matures, the policy grows in value and the policyholder can make withdrawals for any purpose. Thus, it can serve as an investment product as well as an insurance policy.
Availability of Coverage
Unless a term policy is a guaranteed renewable, the company could refuse to renew coverage at the end of a policy's term if the policyholder develops a severe illness. Permanent insurance provides coverage for life as long as the premiums are paid, regardless of changes in the insured’s health.
Other Factors
There is no one-size-fits-all answer to the term versus permanent insurance debate. Other factors to consider include:
- Is the rate of return earned on investments sufficiently attractive?
- Does the permanent policy have a loan provision and other features so you can access the cash value during your lifetime?
- Does the policyholder have or intend to have a business that requires insurance coverage?
- Will life insurance play a role in tax-sheltering a sizable estate?
Do You Get Your Money Back at the End of a Term Life Insurance Policy?
If you're alive when the term expires, you get nothing back from your term life insurance policy. The death benefit is only payable to your beneficiaries if you die. That is the reason why term life insurance is relatively inexpensive. Most people outlive their term life insurance policies.
Can a Senior Citizen Get Term Life Insurance?
It depends on their age. Insurance companies set a maximum age limit for term life insurance policies. This is usually 80 years old but may be higher or lower depending on the company. The premium also rises with age, so a person aged 60 or 70 will pay substantially more than someone decades younger.
The Bottom Line
Term life insurance is a good option for people who can't or won't pay the much higher monthly premiums associated with whole life insurance.
Term life is somewhat similar to car insurance. It's statistically unlikely that you'll need it, and the premiums are money down the drain if you don't. But if the worst happens, your family will receive the benefits.
Disclaimer: Aviso Insurance Inc. offers financial planning, life insurance and investments to members of credit unions and their communities. Your insurance contract will provide details of the coverage available under the plan you choose. Restrictions may apply.
The information contained on this website was obtained from sources believed to be reliable; however, we cannot guarantee that it is accurate or complete. This material is provided as a general source of information and should not be considered personal advice. Please speak to your Aviso Insurance Representative or personal financial representative before making any financial planning decision or implementing any strategy.
SOURCE: https://www.investopedia.com