Life insurance is a relatively straightforward concept, though the specifics of a given policy may get complicated. There are very simple policies, very complicated policies and everything in between. More in-depth information can be found within this life insurance section of the site, including articles on many of the more exotic types of policies. We’ll touch on the over-arching themes here.
There are two main types of life insurance: term life insurance and cash-value insurance.
Term life insurance works most similar to other types of insurance. The policyholder and the insurance company agree on a death benefit and a term of coverage (e.g. 10 years). The policyholder identifies beneficiaries (the individuals who will receive the benefit) and the policy is priced (meaning that the parties agree on a periodic premium, which is paid by the insured to the insurance provider). At that point, the contract is final and the key characteristics become fixed.
Each period throughout the term, the policyholder pays the insurance company a premium. If the insured individual dies during the term, the insurance company pays the beneficiaries the benefit. If the insured does not perish during the term, the insurance company makes no payment and the beneficiaries collect nothing. If the policyholder stops paying premiums during the term, the insurance company is not obligated to pay a benefit.
Generally speaking, term life insurance policies do not cover death resulting from a handful of causes such as suicide, war or civil commotion (riots, etc.).
Most individuals who purchase a life insurance policy purchase a term life insurance policy. As people age, they either accumulate wealth, pay off debts, enter the social security program or otherwise reduce the need for a significant payout at time of death. There are a number of strategies (covered in more depth in our “Basics” and “Articles” sections) that can be employed to ensure that a term insurance policy meets your needs.
Term life insurance isn’t for everyone though. Cash-value life insurance policies act more like investment vehicles. Under these contracts, policyholders make payments to the insurance company, but as these payments are made, a “cash-value” benefit accrues that can be accessed by the insured prior to their death.
The cash-value of the policy is owed to the insured at the end of the contract (even if the insured has not passed away). Any money accessed (effectively borrowed) before death is subtracted from the benefit paid. Essentially, the insurance company is setting aside some of the premium paid in order to fund the death benefit.
Some cash-value policies allow the insured to actively manage the cash-value “portfolio,” which is an extremely valuable feature to many savvy insurance policyholders. However, managing your investments shouldn’t be taken lightly; this is after all a life insurance contract. If you mismanage your policy, that peace of mind can quickly be eroded. The very thing that you were hoping for: stability, guaranteed payment, liquidity, may all be for naught.
Generally speaking, cash-value plans are a mix of an investment vehicle and a life insurance policy. These policies can be tailored to meet the insured’s specific needs, though this customization also reduces the comparability of plans. Customization also generally costs more and reduces the pool of insurance companies that are willing to enter into a contract.
Major factors in determining the cost of a life insurance policy are:
Life insurance is often used to help replace the loss of income resulting from death. In essence, it is a final gift to help ensure that those people left behind are taken care of financially. Along this train of thought, most people use annual income as a basis for determining the death benefit. For instance, you may wish to purchase coverage that is equal to five times your annual salary. Others look at major liabilities (such as a home mortgage); they want to provide their beneficiaries with a benefit that will settle outstanding debts.
Only you can determine the type and level of coverage that works for you. However, once you have that information, our online quote service can help you find an affordable life insurance policy. Because of the long-term nature of most policies, it is vitally important that you request and compare life insurance quotes to find the best price for your needs. Assess service quality as well; the last thing your dependents need when dealing with your loss is an insurance company with poor service.