The Best Life Insurance Policy For You
You see, by setting the right foundation for your financial life, you create an opportunity to benefit every other aspect of your life, in a holistic framework that takes your mind of of money and lets you focus on other areas of your life that are much more important and fulfilling.
With that said, there is no perfect type of policy. We often are asked, “what is the best type of policy to get?”
The answer will vary because the best life insurance policy for you may not be the best for your friend or family member. Each policy should be tailored and designed to suit the needs of the individual, based on each person’s needs, goals and objectives.
Types of Life Insurance Policies
There are two primary types of life insurance policies. Either the policy is permanent, or it is term.
But within that framework are different types of life insurance policies, ranging from fully underwritten, to automated accelerated underwriting, no exam, simplified issue, on down the line to guaranteed issue.
In the following article we will attempt to cover all life insurance plans in the marketplace currently, as well as mention some older types of coverage that have since gone out of production, or at least, are no longer widely sold.
- Permanent Life Insurance
- Term Life Insurance
- Fully Underwritten
- No Exam Life Insurance
Life Insurance Policy Definitions
It is important to know the characters in the play when seeking out, designing and implementing your life insurance plan. The main definitions to know include: Policy, Owner, Insurer, Insured, Beneficiary, Insurance Premiums, Death Benefit and Cash Value.
Policy: A policy is the binding contract between the owner and the insurer. The insurer is bound to the terms of the contract and cannot cancel the policy except for non payment of premium payments.
Owner: The owner of the policy is the party that enters into the binding legal contract between the owner and the insurance company.
Insurer: The insurer, aka the carrier, aka the company, is the entity that guarantees the terms of the contract. All policy guarantees are backed by the viability of the company issuing the policy.
Insured: the insured is the individual that the policy is covering. The insured is often the same person as the owner, although that is not necessarily a requirement.
Beneficiary: the beneficiary is the person or entity that receives the life insurance death benefit from the insurer upon the death of the insured.
Insurance Premiums: life insurance premiums are the payment due to keep the policy active and in force on the life of the insured.
Death Benefit: the death benefit is the amount of payout that will go to the beneficiary upon the death of the insured, minus any outstanding policy loans. You can decide how you want the death benefit to go to your beneficiary in advance, including as a lump sum, interest only, or as payment over a set number of years.
Cash Value: the policy’s cash surrender value is the amount of money that is accumulating in the permanent life insurance, that can be accessed through surrender of the policy, withdrawals or used as collateral for policy loans.
As the name suggests, permanent life insurance is designed to last your entire life. However, as we will discuss in more detail below, that is not how it always plays out.
Ultimately, the type of permanent life insurance you choose will determine how permanent your coverage will be.
Death Benefit and Cash Value
Permanent life insurance provides lifelong death benefit protection.
In addition to death benefit protection, permanent life insurance also has a cash value component. This feature differentiates permanent life vs term life, which provides only a death benefit.
Another difference between permanent and term life insurance is that the former lacks a definite end date.
Permanent life insurance, as the name suggests, is expected to last for the life of the insured.
There are a variety of permanent life insurance types, which we discuss in more detail below.
Whole life insurance is the most talked about, yet maybe the least understood, permanent coverage available. It has been referred to as “ordinary life insurance” but when properly designed, it is anything but.
Among the most widely known whole life insurance pros and cons are the guarantees. There are three primary guarantees associated with whole life insurance policies.
The three guarantees include a guaranteed death benefit, guaranteed level premium and guaranteed cash value growth.
Whole life insurance rates are fixed, providing a level premium that stays the same for the entirety of the contract’s life. This feature can be useful if you prefer to maintain a steady budget and want to know without a doubt what next months premium payment will be.
Whole life insurance cash value accumulates based on life insurance premiums paid and dividends. Whole life policies guarantee cash value growth. The better performing policies may produce an internal rate of return of well over 5% over the long term.
The cash value in the policy grows overtime, which also grows the death benefit.
With the help of dividends purchasing paid-up additions, it is possible for your death benefit to increase substantially over your lifetime.
The cash in your whole life policy’s account grows tax-deferred, meaning that there is no tax on this growth until it is withdrawn above the basis from the cash account.
Another option to avoid a taxable event is to take out a life insurance loan.
Over time, as more of the premium is devoted to the cash account, this account will begin to amass funds more rapidly, as compound interest really kicks in, increasing both your cash value and death benefit.
Some types of whole life insurance, called participating whole life, pay dividends to policyholders.
These dividends are categorized as return of premium to the owner of the policy, so they are not subject to taxation.
Dividends can be used as cash, pay premiums, pay back loans, buy term insurance, or purchase additional paid-up insurance.
Lastly of note, limited pay whole life insurance is available. You can choose to pay your premiums for a specific period of time, such as 7-Pay, 10-Pay, 20-Pay, to age 65 or to age 100.
Once the payment period has been fulfilled, the policy is considered paid-up, and no more premiums are due.
However, thanks to premium offset options, you can continue to make premiums payments or have your dividends pay your life insurance premiums, to further grow your cash value and death benefit to age 100.
Universal life insurance features a death benefit and cash value account like whole life, however it offers greater flexibility than whole life in two distinct ways. This is due to the ability of a policyholder, within limits, to select the amount of the premium that will be devoted to the policy’s death benefit and the amount that will be contributed to its cash value account.
Universal life policies often provide you with the flexibility to skip payments if there is enough cash in the cash account to cover your premium payments. This option should be used with caution; if there isn’t enough money in the cash account to make payments the policy may lapse.
Also, as permanent insurance, the cash value account in universal life grows tax-deferred and can be accessed by the policyholder in the form of loans or withdrawals, subject to any applicable policy provisions.
Guaranteed universal life (GUL) is the easiest to understand universal life insurance type. It is a great option for someone looking for lifelong death benefit protection at the lowest cost.
Guaranteed universal life insurance is able to do this at the expense of the cash value, which is going to be lower and grow at a slower pace than the cash value in other life insurance policies.
It is called guaranteed universal life due to the no lapse provisions in the policy. These guarantees provide the policy will not lapse as long as the premiums are paid.
The no lapse guarantee may not be included for the entire duration of the policy, so make sure you understand the fine print.
GUL policies can be structured to last until ages 90, 95, 100, 105, 115 or 121. However, the only true permanent coverage is the GUL to age 121.
With the other types of guaranteed universal life you risk the policy expiring before you die if you outlive the coverage end date.
Indexed universal life (IUL), features a linkage between the cash value of the policy and a stock market index such as the Standard & Poor’s 500, Nasdaq, DJIA, Russell or even international indexes such as the Hang Seng, EURO STOXX 50, or MSCI Emerging Markets.
The gains you receive from this connection between your IUL policy and a specified index are determined by a formula contained in the policy, which includes your participation rate, cap rate and floor.
There are many IUL insurance benefits to consider.
For example, IUL policies offer you the opportunity to receive returns linked to the stock market, while typically limiting any downside apart from fees. This allows you to participate in the market’s upside, often with a cap limiting how much you can make in any one year, while avoiding negative stock market returns.
The percentage of the index’s gain that you will benefit from is determined by the policy’s participation rate. For instance, if the market rose 16% and your policy featured a 75% participation rate, your cash account would see a 12% gain (75% of 16%).
If the policy features a cap rate, this limits the growth of your cash account in any one year regardless of the participation rate. For instance, if the policy in the example above had a cap rate of 10%, your return would be capped at that level rather than the total gains of the index your policy follows.
If the market were to fall, on the other hand, IUL policies often limit any losses with a set guaranteed floor. Thus, if the market fell 10%, for example, your cash value account would not lose 10%, but would instead realize a 0% return for the year unless the policy offered a minimum yearly return guarantee.
As with other types of permanent insurance, you can access the cash value account in an IUL policy via withdrawals and loans. You can also select how much of your premium goes to the death benefit or cash account or use the cash account to pay premiums as with traditional universal life.
Variable Universal Life (VUL) is another permanent life insurance type that offers similar features to other universal life policies, such as flexible allocation of premium payments.
The additional benefit with variable universal life insurance is that the policyholder has a variety of investment options to choose from. These can include equity options such as mutual fund-like investment sub-accounts in which your cash account can be invested.
Risk vs Reward
This gives the cash account in VUL policies the potential for greater returns than a typical whole life policy by investing in equity-linked investments, but also makes them subject to greater risk due to the volatility associated with the stock market.
The death benefit of Variable Life policies may rise or fall, but it will not decline below the specified guaranteed amount. This amount is typically the death benefit amount that was purchased at the policy’s origination. There is generally no minimum guaranteed cash value associated with VUL policies.
Introduced over the last few years, long-term care life insurance is a hybrid policy.
With hybrid long-term care life insurance policies you get a death benefit payout along with the option to use the policy if you are faced with the need for qualifying long-term care services.
And unlike traditional LTC insurance policies, the premiums on the hybrid policies are fixed. This is a great feature, as many older LTC policies have rising premiums, making it difficult for policyholders to keep the policy in force.
Although there are a few life insurers that offer first-to-die life insurance, it is no longer as popular as it once was.
The basic idea behind first to die policies is it covers the life of two people.
The life insurance company pays out the death benefit after the first person dies, so the survivor has money to cover expense, such as burial costs, pay debts, pay bills, etc.
Survivorship life insurance policies cover more than a single individual. They can be designed in several ways.
One approach is to set up such a policy as first to die. This type of coverage ensures that the death benefit will be paid out upon the first person’s death.
Last to die insurance survivorship insurance, also known as joint and survivor, can also be purchased. Policies of this type can be purchased as term or permanent insurance.
Generally, survivorship life insurance policy premiums are higher than would be the case with a policy with just a single insured. However, purchasing a survivorship life insurance policy is often less expensive than buying two different life insurance policies.
Additionally, there may be less stringent life insurance underwriting criteria for such policies, especially in cases where one of the insured individuals is in good health, compensating for the other insured whose health may be anything but good.
Term Life vs Permanent Life
One of the best examples for contrasting term life vs permanent life insurance is the concept of owning your home versus renting.
Term life is similar in some regards to renting a home. You pay money into the policy like you would pay a landlord.
At the end of the term or the lease, you need to renew the lease or move out.
Overtime, the lease will increase, just as the term life rates will increase. And all the money you are paying the landlord or the insurance company is never seen again.
Alternatively, with permanent life insurance, it is like owning a home.
As you make premium payments, the equity in your home builds, similar to the cash value in your policy.
Initially, the equity builds slow because you are paying down more interest than principle.
Similarly, your cash value builds slower at first as your start-up fees and costs take more of your premium.
However, over time your equity builds and you can access your equity via a cash out refinance or HELOC. Similarly, you can access your policy’s cash value via withdrawals or loans.
Where this analogy comes up short is that with home equity, you still have to apply and be approved by the bank to touch your equity.
However, your cash value in your permanent policy is available whenever, and for whatever, you want.
Among the different term life insurance types are level term life insurance, convertible term life insurance, return of premium life insurance and decreasing term life insurance.
First, a little about a term life policy in general.
Term is heralded by most in the media and financial world as being the better option because it is less expensive than whole life. In fact, you have probably heard it said to buy term and invest the difference.
Just be aware that term life premiums get very expensive as you age. And as you age when you need coverage the most, the term policy is too cost prohibitive.
This leads people to making poor financial decisions, such as buying final expense insurance, when they could have purchased permanent life insurance while younger and saved themselves the disappointment.
Pure Death Insurance
Term life insurance types are designed strictly to pay out a death benefit. A term policy can be considered “pure life insurance”. It could also truly be called “death insurance”, since its primary objective is to pay a death benefit when the insured dies.
No Cash Value
One difference of whole life vs term life is that there is no cash value account connected with term insurance.
Due to this, term life is typically the most affordable type of insurance you can buy, and often appeals most to younger people in good health who have been convinced by financial entertainers that they cannot afford the higher premiums associated with permanent life insurance.
Term life is purchased for a certain period of time: for instance, 5, 10, 15, 20, 25 or even 30 years. In addition, some insurance carriers offer a 1-year renewable term life option.
Once your term expires the policy is renewable to a specific age, such as 95 years old. However, the term insurance premiums will increase each year, making term life insurance extremely cost prohibitive later in life.
Alternatively, some companies keep your premium the same, but lower the death benefit. Eventually the death benefit will decrease to around $10,000, at which time the term life rates begin to increase.
Either way, the main point is a term life policy is temporary. Do not expect to die with term in force, since 99% of policies expire without paying a death benefit claim.
Most term life policies feature level premiums for the life of the policy.
A level term life policy provides a fixed premium.
However, be aware that some companies will offer “level” term life, only to raise the premiums every five years.
The only thing that is truly “level” with these term policies is the death benefit, which is why you need to read your policy.
Retaining term coverage after your level term life policy expires will typically cost more as you age and your health declines.
As a result, some term life policies feature an option to convert the coverage into permanent life insurance within certain parameters.
Convertible term life insurance is typically a normal level term policy that has the option to convert the policy into permanent insurance by the end of the term or by a specified age, such as 70.
The advantage of convertible term insurance is you can convert all or a portion of your death benefit to permanent coverage without having to prove your insurability, in other words, you don’t need to take an exam or answer health questions.
At I&E, we strongly recommend anyone considering term life to also consider the types of policies the term can be converted into.
Not all permanent life insurance is created equal, so choosing the best cash value life insurance company from the start is very important if you plan on converting your policy down the road to any worthwhile permanent coverage.
Life insurance classified as return of premium (ROP) features a return of premiums paid to purchase coverage if the insured outlives the term of the policy, or payment of some portion of premiums paid to the beneficiary upon the insured’s death.
An example would be if a $500,000 policy was purchased with payments of $5,000 a year for 20 years. After the 20 years was up if the policyholder was still alive he or she would be refunded $5,000 x 20 or $100,000.
Such a payment would be considered return of premium, or return of principal, rather than a payout of earnings, and therefore not subject to taxation.
ROP policies offer you a chance to hedge your bets, providing insurance protection for your loved ones during the term of the policy, while providing you with the ability to regain the money spent on insurance premiums if you outlive the policy payment period.
ROP policies were more popular in the past, but due to higher costs associated with the policies most life insurance companies no longer offer the ROP option.
A decreasing term life policy (aka mortgage life insurance) features a death benefit that declines over time, even while the premium typically stays the same. Such policies terminate when the death benefit falls to zero.
Decreasing term policies are often used to provide coverage for the balance of a mortgage loan. As the mortgage balance declines, the mortgage life insurance coverage also falls until the mortgage is paid off and the insurance is no longer needed.
Most life insurance companies require a life insurance medical exam.
However, there are a few innovative companies that are using other means to gather the necessary data needed to make an informed decision on whether or not to approve an applicant.
A fully underwritten exam includes a paramedical exam. The exam includes a blood draw, urine sample, height and weight measurements and additional health questions and lifestyle questions.
No exam life insurance does not refer to a specific type of coverage but to the underwriting requirements of the policy.
No exam life insurance can refer to both accelerated underwriting or simplified issue.
You can even qualify for no exam permanent life insurance from innovative companies, such as Penn Mutual.
Automated accelerated underwriting is a new category that was first introduced a few years ago.
Accelerated underwriting is a hybrid of fully underwritten and no exam life insurance.
It truly is still fully underwritten in that there is a thorough application covering your health and lifestyle, a back ground check consisting of the Medical Information Bureau (MIB), a Prescription Database Check and a look at your Motor Vehicle Record (MVR).
But for those who qualify, you may not have to take a paramedical exam.
Still others might be able to bypass certain paramedical requirements, such as the blood draw and urine sample.
Qualifying for no exam coverage for permanent life insurance policies will typically hinge on your background check and if anything pops up that might cause the insurance underwriter to want additional information.
Simplified issue life insurance doesn’t require a medical exam in the underwriting process.
Depending on the type of simplified issue policy, some questions, or perhaps only a few questions about your health will be asked of you, and you will then be accepted or denied based on your answers.
Generally, simplified issue life insurance maxes out around $250,000 worth of coverage.
Also known as burial insurance, final expense life insurance is generally purchased by people in the 50 to 85 age range, although those above this age range can usually find some insurance companies willing to sell them a policy.
Final Expense insurance is aimed at people who want to provide funds to pay for the cost of a funeral, memorial service, and other such costs associated with their death. The costs of such expenses can easily run to $10,000 and more, which may not be easily affordable for many families.
Final expense insurance coverage can be permanent as well as term, and underwriting such policies is generally not difficult, making them available to older applicants as well as those in poor health.
Individuals who might not otherwise qualify for life insurance but still want to provide funds to pay for their final expenses often purchase this insurance type.
Guaranteed issue life insurance dispenses with health questions altogether and ensures that you will get coverage as long as you meet the age requirements and live in a state where the guaranteed issue policy is sold.
Both simplified issue and guaranteed issue life insurance types of coverage are more expensive than going through the standard underwriting process, which includes a medical exam, with guaranteed issue typically being more expensive than simplified issue since no health questions are required.
If you don’t believe you are likely to pass a medical exam or prefer not to take one, simplified issue or guaranteed issue may be your best option.
A pure accidental death insurance policy pays out a death benefit if you die due to a qualifying accidental death.
An accidental death and dismemberment policy pays out a death benefit if you die due to a qualifying accidental death or if you are dismembered, such as losing your arms or legs.
And there are percentages offered if you suffer from the loss of only one limb.
In addition, some ADD policies offer additional coverage for loss of sight, hearing, etc.
But note, accidental death insurance only covers you for qualifying accidents. There are many exclusions and limitations in the policy, such as committing a crime or driving while intoxicated.
And of even more importance is the ADD policy does NOT cover you for natural causes, such as cancer, heart disease, diabetes or stroke.
At I&E, we believe the best life insurance policy can make the difference between a life lived in scarcity and one lived in abundance.
Please take some time to read our other blog posts where we break down our philosophy on money, wealth and legacy.
In the end, having the best life insurance policy for you, one that meets your unique needs, goals and objectives, is the key to true financial freedom.
Please give us a call today or send us an email for a complimentary strategy session.