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There are Different Types of Life Insurance Policies on the Market Today
Today, there are a wide variety of life insurances available, the most basic of which are term and permanent. Within each of these categories however, there are many different types to choose from – and being familiar with these can help you better customize the coverage to meet your specific needs.
Term Life Insurance Policies
Term life insurance is considered to be the most basic of life insurance that can be purchased. This is because term life offers pure death benefit protection only, without any cash value building up within the policy. Because of this, term life insurance is often very affordable – especially for those applicants who are younger and in good health at the time they apply for the coverage.
With term life insurance, coverage is purchased for a certain length of time, such as 10, 15, 20, 25, or 30 years – and in some cases, even longer. There is also a 1-year renewable term life insurance option that is offered by many of the best life insurance carriers.
Typically, when purchasing a level term life insurance policy, the amount of the premium will remain the same throughout the period that the policy is in force. Provided that the insured survives throughout the time period of the policy, and he or she wishes to remain covered by life insurance, they will need to re-qualify for a new policy at their then-current age and health status.
At that time, the premium on a new life insurance policy may be quite a bit higher. In some cases, a term life insurance policy may have an option to convert the coverage into a permanent life insurance plan.
Increasing and Decreasing Term Life Insurance Coverage
On some types of term life insurance, the death benefit will go down over time. These are known as decreasing term life insurance policies. (The premium, however, will usually remain the same). With a decreasing term policy, the policy ends when the death benefit reaches zero.
An individual may want to purchase a decreasing term life insurance policy to cover the balance of their unpaid mortgage. Each year, as the amount of the mortgage balance decreases, so does the amount of the insurance coverage – until eventually both will reach zero.
There are also term policies where the death benefit increases over time. Often, this benefit will be purchased as a cost of living rider on the policy. A young parent may consider this type of policy as their coverage needs increase.
PERMANENT LIFE INSURANCE COVERAGE
Permanent life insurance is different from term insurance because it offers both death benefit protection as well as a cash value component. It also differs because, as the name suggests, it does not have a time limit like term insurance. Rather, it is intended to last for the remainder of the insured’s lifetime – provided that the premium is paid. There are many different types of permanent life insurance.
Whole Life Insurance Coverage
The simplest type of permanent life insurance coverage is whole life. With this type of coverage, the premium amount is locked in and will remain the same throughout the entire lifetime of the policy. This can be helpful for those who need to stick to a budget. It also means that if a person purchases a whole life policy at a very young age, they will still pay the same amount of premium when they get older – regardless of advancing age, or even an adverse health issue.
In some cases, when a person's pre-existing conditions require the individual to buy high risk life insurance, some graded whole life policies are the only option.
The cash that is in the cash value component of a whole life insurance policy is allowed to grow on a tax-deferred basis. This means that the gain on these funds will not be taxed until or unless they are withdrawn – allowing them to compound exponentially over time.
At first, the cash in a whole life insurance policy will grow slowly. This is because the majority of the early premium dollars will go towards paying the agent’s commission and the insurance costs. However, over the years, the cash in a whole life policy can steadily grow, often with a minimum guaranteed rate of return.
Some whole life insurance policies will even provide dividends to their policyholders. Because these are considered to be a return of premium to the policyholder, they are also not taxed. Dividends can also help the cash value in a policy grow significantly – although they are never guaranteed.
Universal Life Insurance Coverage
Another form of permanent coverage is universal life insurance. This type of life insurance also provides a death benefit and a cash value component where the funds are allowed to grow tax-deferred.
Universal life insurance is more flexible than whole life coverage though. This is because the policyholder is allowed – within certain guidelines – to choose how much of his or her premium dollars will go towards the policy’s death benefit, and how much will go towards the policy’s cash value.
Because universal life is a permanent life insurance policy, the policyholder will have access to their cash value account. So, just as with a whole life plan, the cash can be borrowed or withdrawn for any reason – including paying off debt, supplementing retirement income, or even going on a vacation.
Variable Life Insurance Coverage
Variable life insurance is also a form of permanent life insurance coverage. These types of life insurance policies offer a death benefit, as well as a cash component. However, with variable life insurance, the policyholder can take part in a variety of different investment options, such as equities.
This means that their funds have the opportunity to grow a great deal more than the funds in a whole life policy. It also means that there can be more risk as funds are exposed to the ups and downs of the equities market.
It is important to note that while the policyholder can increase their funds based on market movements, their cash is not invested directly in the market. Rather, it is invested in “sub-accounts” by the insurance company.
With a variable life insurance policy, the death benefit may go up or down – however; it will not go below the set guaranteed amount. This is usually the original amount of death benefit that is purchased at the time of policy application.
Variable Universal Life Insurance Coverage
Variable universal life insurance is similar to regular universal life insurance coverage, except in this case, the policyholder is allowed to invest the cash in their policy into different types of investments such as mutual funds. Also, there will be no guaranteed minimum cash value in this type of policy.
Survivorship Life Insurance Coverage
With a survivorship life insurance policy there is more than one person that is covered. These policies can be set up in a couple of different ways. One way is known as 'first to die'. With this type of policy, the coverage is designed to pay out when the first person passes away.
In most instances, the premium that is charged for this type of policy can be higher than for a policy on just one insured. However, it can often be less than purchasing two separate life insurance policies.
There are also joint and survivor, or 'last to die' life insurance policies. With these policies, the coverage pays out when the second person on the coverage passes away. These can either be term or permanent coverage.
These policies can have other advantages too, they typically will cost less than two separate life insurance policies and they may have less strict underwriting criteria – especially if one of the individuals is in very good health.
Final Expense Life Insurance Coverage
Final expense life insurance coverage is often called burial insurance and is purchased by those who are considered “seniors”, or between the ages of 50 and 85 – although there are some insurance companies who will sell policies to applicants who are older.
This type of coverage is typically geared towards those who want to ensure that their loved ones will not be saddled with the high cost of a funeral and other related expenses such as a headstone, burial, flowers, and memorial service.
Today, the average cost of such items nationwide can be around $10,000 – an amount that many families just simply do not have readily available. So, a final expense life insurance policy can help.
Final expense coverage can be either term or permanent – and oftentimes the underwriting requirements are not stringent. Also, the premium cost for this type of coverage is usually not high, even though the applicants are usually older.
Understanding the “Cash Value”
When an insurance policy contains a guaranteed cash value for a guaranteed premium, it means that the premium is larger at the beginning of the policy than it would be in a term policy so that the additional premium can be invested in a “separate account” controlled by either the insurer or the policyholder in order to grow the cash value.
Whatever gains are earned can be used in a few different ways: to increase the death benefit, to borrow against for some later use or to keep the policy in effect so that you can stop paying monthly premiums. If you have a cash value policy, it’s best to hold it until death or retirement so you can allow for maximum gains.
A Closer Look at the Tax Benefits of Life Insurance
These tax benefits within a universal life insurance policy are similar to those within a 401k and IRA. Annual earnings on the investment part of the policy don’t get taxed and any taxable gains when cashing out on a policy can be reduced by the amount of insurance protection the plan provides. Furthermore, in the case of death, the policy holder’s gains usually aren’t taxed.
Such policies can offer a range of investment options, including stocks, bonds, balanced mutual funds, international mutual funds and money market accounts. When deciding to invest, work with an advisor just as you would a financial advisor; and always invest just as much as you foresee needing, neither more nor less.
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