Term Life Insurance. Many people view life insurance simply as a way to provide for their loved ones after their death, rather than as a financial investment. In particular, those whose debts exceed their assets often want to make sure those debts can be paid if something happens to them. If the primary or only reason you want life insurance is to help your loved ones financially after you die, term life insurance could be your best option.
Term life insurance provides coverage for a set period of time, typically from five to 30 years or to a certain age, such as 65. If you die before the term is up, the insurance company pays out benefits to your beneficiaries. Term life policies are simpler and usually less expensive than whole and universal life. The downside is that if you outlive the term, unless you’ve purchased a return-of-premium term policy (see below), you receive nothing for all of the premium payments you’ve made.
When shopping for term life insurance, consider how much coverage you need and how much you can afford. Decide how long you want coverage for, which will determine the term you select. The following guide looks at these and other questions in more detail.
What Is Term Life Insurance?
The Maryland Insurance Administration explains that a term life insurance policy provides coverage for a predetermined number of years. This type of life insurance only pays a death benefit if the policyholder dies before the term is up. It doesn’t accumulate cash value that can be used for loans and other purposes. Term life policies are cheaper than permanent life insurance policies, which includes whole life and universal life policies.
Unlike some permanent life insurance policies, the premiums for most term policies can change over time and usually rise with the policyholder’s age. While some term life policies have premiums that are guaranteed not to change for a certain period, these policies are more expensive.
Term policies usually can be renewed. However, the premium will likely go up with each renewal, especially if your health has declined in the interim. Some insurance companies may require a physical exam before they allow you to renew, and some don’t let you renew after a certain age.
A term policy can sometimes be converted into a cash-value policy during what is known as a conversion period. This probably will increase your premiums.
A term life insurance policy is usually best for someone who just wants to provide for their loved ones and doesn’t have the time, inclination or budget to use the policy as a financial investment. Before choosing a policy, it’s a good idea to talk to an agent who can help you determine what type of life insurance is best for meeting your specific needs.
How Does Term Life Insurance Work?
Term life insurance pays a death benefit if the policyholder dies during a defined period of time, called a term. If the term expires and the policyholder is still alive, no benefit is paid.
The Insurance Information Institute (III) notes that there are two basic types of term life insurance: level term and decreasing term. The death benefit paid by a level-term policy doesn’t change no matter when during the term the policyholder dies. By contrast, coverage under a decreasing-term policy declines over the term at a specified rate. Both types of policies usually feature consistent premiums. Most people choose level-term policies so they can count on a guaranteed death benefit. However, some decreasing-term life insurance can be useful for protecting personal assets or ensuring that a business can continue to function if one of its essential employees dies.
Terms for term life insurance policies can be anywhere from one to 30 years, usually in five-year increments; a 20-year term is the most popular. If you select a longer term, you usually have the option of paying a higher premium in exchange for a guarantee that it won’t increase during the term. Otherwise, the insurance company can raise the premium if it chooses.
Some term life insurance policies are renewable. A renewable policy can be reinstated for another term when the current term expires, even if you’ve developed a health condition or experienced some other change in the meantime that would disqualify you for a new policy. When a policy renews, your premium increases based on your current age.
Another option is to make your policy convertible. A convertible term policy can be changed into a whole life or some other type of permanent policy without having to go through the standard application process.
With most term life insurance policies, if the policyholder doesn’t die during the term, all of the premium payments he or she made are lost; the benefit to the policyholder essentially was peace of mind. However, some insurance companies offer “return of premium” life insurance. As the name implies, with this type of policy, premium payments are returned after the term expires if the policyholder is still alive. Premiums for return-of-premium term policies are usually much higher than those for standard term policies. Some return just the entire premium, while others return just the base premium but not the extra amount charged for the return-of-premium option.
You also might want to consider no-exam term life insurance. This waives the standard medical exam,resulting in an easier application and faster approval process. However, this type of insurance is often considerably more expensive. For more information, see no-exam life insurance.
What Is Supplemental Life Insurance?
Although many employers provide life insurance to their full-time employees – often called group life insurance – this might not be sufficient to provide for your family. Most employers only provide up to two times a given employee’s annual salary in life insurance coverage. As a result, if you have many dependents and/or large financial obligations, you might want to purchase supplemental life insurance.
Buying supplemental life insurance through your employer has advantages and disadvantages. On the plus side, you won’t need to take a medical exam. However, some employer-provided supplemental life insurance has limitations you might not want to accept, such as only paying out if you die or are critically injured in an accident. Also, keep in mind that you probably won’t be able to take employer-provided supplemental life insurance with you if you quit or are fired from your job. If these limitations give you pause, consider buying supplemental insurance through a private carrier.
Term Life vs. Whole Life
|TERM LIFE INSURANCE||WHOLE LIFE INSURANCE|
|Cheaper than whole lifeSimpler and easier to understand than whole lifePremiums usually stay the same throughout the term||Some policies have an investment optionCan borrow against cash valueCan provide coverage for extended periods of time, up to the policyholder’s death|
|Doesn’t build up cash valueOnly lasts for a specific period of time (the term)Can sometimes be renewed, but premiums will likely be higher||More expensive than termCash value earns relatively low rates of return compared to other investmentsMore complicated than term|
The National Association of Insurance Commissioners says a term policy covers an individual for a specific time period, otherwise known as a term. This type of life insurance costs less than whole life. Term life insurance doesn’t cover you for your entire life, although depending on the type of policy you have, you may be able to renew it when the term expires at a higher premium. Some term life policies can’t be renewed after a certain age. Term life insurance also doesn’t build cash value, so it can’t be used as a financial investment (such as for retirement planning) or borrowed against. Convertible term insurance can be converted into a whole or universal life policy during a specified period. This allows you to start off with a more affordable term policy and change it to a permanent one later that will build cash value.
A whole life policy builds cash value that you can borrow against or use as an investment, although returns are lower than for some other types of investments. Premiums for whole life insurance are considerably higher than those for term, but whole life can provide coverage as long as you wish up until your death.
Term Life vs. Universal Life
|TERM LIFE INSURANCE||UNIVERSAL LIFE INSURANCE|
|Cheaper than universal lifeSimpler and easier to understand than universal lifePremiums usually stay the same throughout the term||Some policies have an investment optionCan borrow against cash valuePremiums and death benefit sometimes can be adjusted|
|Doesn’t build up cash valueOnly lasts for a specific period of time (the term)Can sometimes be renewed, but premiums will likely be higher||Usually more expensive than termCash value earns relatively low rates of return compared to other investmentsMore complicated than term|
Term life insurance provides coverage for a specific period of time called the term. It is a relatively simple, inexpensive form of life insurance that’s suitable for people who want to provide for loved ones until they go to college or otherwise don’t need additional support, but who don’t want to use life insurance as a financial investment.
Universal life insurance, like whole life insurance, builds cash value that can be used as an investment or borrowed against and provides coverage for as long as premiums are paid. You also can adjust your premiums and death benefit, which term policies typically don’t allow.
What Is Cash Value?
A primary difference between whole and universal life insurance on the one hand, and term life insurance on the other, is that whole and universal life build cash value over time. This cash value can be used for a number of financial needs throughout the lifetime of the policyholder. Some permanent policies also offer an option to invest the cash value.
By contrast, a term life insurance policy has no cash value while you’re alive; it simply pays a benefit to your loved ones upon your death. This means if you’re still alive when the term is up, you will have nothing to show for all of the premium payments you’ve made over the years.
An exception is if you purchased a return-of-premium term life insurance policy or a return-of-premium rider on a traditional term policy. These will refund all or part of your premiums if you outlive the policy term. As a bonus, you won’t pay taxes on this money. The downside is that a return-of-premium term policy costs about 30% more than a standard term policy – money you could be investing elsewhere.
So is it worth paying more for a whole or universal life policy that builds cash value? This depends on your budget and financial goals. “One advantage of having cash value in a policy is that the cash value can allow the company to charge level premiums that are the same from year to year,” says Theodore Affleck, an insurance industry consultant at Newington, Connecticut-based consulting firm CLU & Associates LLC. “You also can borrow against the cash value, and the insurance company doesn’t check up on your credit.” In addition, you can surrender a whole life or universal life policy and receive the cash value if you no longer need the policy. “There are certainties that cash value policies create that term policies don’t,” he says.
You can think of a cash-value policy as a mechanism that forces you to save money. If you need some encouragement in this area, whole or universal life insurance might be a good option. But if you already use mutual funds or other investment vehicles on a regular basis, a cash value policy may be less attractive. Also note that interest rates charged for borrowing against cash-value policies are fairly high compared to other types of loans. Moreover, insurance companies tend to invest whole and universal life insurance premiums relatively conservatively, which means the value of those policies doesn’t grow as fast as some other types of financial investments.
How Much Is Term Life Insurance?
Term life insurance is generally more affordable than whole life and universal life. The monthly premium for all types of life insurance, including term insurance, will vary depending on a number of factors, including the policyholder’s age and state of health.
In the chart above we sample average term life insurance rates for a female non-smoker who falls in a Standard Plus risk class (average health) and is buying a policy with $1 million in coverage.The average monthly premiums range from $36.20 to $707.93 for a 10-year term, depending on her age. For a male with a similar sample profile, the average cost varies from $43.69 to $1,084.80 for a 10-year term. Rates differ for other terms, and whole and universal life policies cost more.
You may be able to save money with one of the Cheapest Life Insurance Companies. Whenever you’re looking at life insurance quotes online, make sure they accurately reflect your age, health status and other factors that will uniquely impact your monthly premium.
How Much Term Life Insurance Do I Need?
According to the California Department of Insurance (CDI), to estimate how much life insurance you need, first determine why you want it. There are several reasons to buy life insurance, including:
- Making sure your family members are taken care of financially after you die
- Ensuring that long-term debts such as a mortgage are paid off upon your death so your loved ones aren’t responsible for them
- Ensuring business continuity, such as by providing compensation if a high-level employee passes away or enabling a surviving partner to purchase the part of the business previously owned by the deceased partner
- Enabling the executor of your estate to pay estate taxes or other debts related to the estate
- Paying for burial expenses
Other factors to consider include your age, whether you have a spouse or dependents, what other income and assets your beneficiaries will be able to rely on after you die, and the standard of living you would like them to maintain.
After you have taken all of this into account, follow these steps:
- Determine how much life insurance to purchase based on your needs as outlined above.
- Determine your budget for life insurance.
- Decide what kind of life insurance you need. For many people, especially those who don’t view life insurance as an investment vehicle, a term policy is best.
The CDI warns against buying too much life insurance, which can keep you from achieving other long-term financial objectives such as paying off a mortgage. At the same time, buying too little life insurance risks leaving your loved ones without enough money upon your death. It’s important to achieve the right balance, so think it through carefully. For more information on how to calculate your life insurance needs, see How Does Life Insurance Work.