Types of life insurance
Life insurance can give families financial peace of mind if the unthinkable happens and you or your spouse pass away. When shopping for a life insurance policy, you may be wondering what type of life insurance policy is best for your individual needs. To make the right choice, it’s important to know what policy types are available and what they provide.
Different types of life insurance
There are two main types of life insurance available, as well as some additional, more specialized options:
- Whole life insurance
- Term life insurance
- Other types of life insurance
Term life insurance
Term life insurance is typically much more affordable than permanent life insurance because it is only active within a set period and does not generate any cash value. Some types of term life insurance also maintain constant premiums throughout the policy’s life.
Despite the comparatively cheap premiums associated with term life insurance, there are a couple of drawbacks. For one, there is no savings component with term life policies. A savings or cash value component enables policyholders to add value to their policy over the course of their premium payments to cover extra expenses before death. If you decide you’d like access to a saving component, you’ll need to purchase a permanent insurance policy.
Another issue with term life insurance is that it only covers the policyholder’s beneficiaries for a set period. If a policyholder buys a 10-year term policy but dies 11 years after purchasing the policy, no death benefit is paid. If a policyholder outlives the term of their policy, they may have the option of renewing it for another term, converting the policy to a permanent insurance policy, such as whole life insurance or letting the policy end. The conversion privilege is typically only available in the first five years. You will have to ask your insurance agent if this option is available when initially purchasing the policy.
The four primary life insurance types for a term policy are:
- Level term policies
- Yearly renewable term policies
- Return of premium policies
- Decreasing term
Level term policies
A level term policy covers its policyholder for a set period and holds the death benefit and premium at a constant level. Because it gets increasingly expensive to cover a policyholder as they age, level term policies initially charge higher premiums to cover costs down the road.
Yearly renewable term policies
Yearly renewable term policies have no specified term limit and enable policyholders to extend them year after year. This option makes premiums cheap initially but prohibitively expensive as the policyholder ages.
Return of premium policies
Finally, return of premium policies charge the policyholder a fixed premium for the policy’s life and operate under a specific term period as other term policies do. Because many policyholders have found the vanishing death benefit component of traditional level term policies unfair, insurance providers have begun offering a return of premium option that refunds users their premium payments at the end of the policy. This option makes premium payments during the life of the policy considerably more expensive.
Decreasing term policies are unique in that the death benefit decreases in increments, usually year-by-year. Decreasing term policies may be attractive to policyholders with children. As their children age and come closer to financial independence, the policyholder may not need as high of a death benefit.
Whole life insurance
Whole life insurance is a form of permanent life insurance. The agreed-upon death benefit is paid out to beneficiaries in exchange for a constant, regularly-paid premium paid by the policyholder over the policy’s life. Whole life insurance also invests the money of the policyholder while they are still paying premiums. This investment serves as a savings account from which the policyholder can withdraw or borrow funds for various expenses.
The premiums for whole life insurance policies are generally much higher than those on other life insurance policies, but they come with a few benefits. For one, the premium level never changes. Another plus is that the policy never expires. As long as the premiums are paid, it remains active and will pay out the death benefit to the policyholder’s beneficiaries when the policyholder dies.
There are two primary types of whole life insurance:
- Traditional whole life insurance
- Variable whole life insurance
Traditional whole life insurance
The premium and death benefit never change with traditional whole life insurance. Providers achieve this by setting the premium level at an amount that is initially excessive in relation to the benefits that the policyholder needs. As the policyholder ages, the cost per $1,000 of benefits increases and ultimately evens out. All the while, insurance providers invest a policyholder’s premium payments and use the earnings to pay life insurance costs for older policyholders.
Variable whole life insurance
Variable whole life insurance is a permanent insurance policy that combines a death benefit with a savings account, giving users the option to invest in various money markets to increase their policy’s value. It can be a riskier option because policyholders effectively tie the value of their death benefits to the performance of whatever market in which their money is invested.
Other types of life insurance
While term and whole life insurance are the broadest types of life insurance, other types of policies expand on permanent insurance coverage. They include:
- Universal life insurance
- Simplified issue life insurance
- Guaranteed issue life insurance
- Final expense insurance
- Life insurance for babies, toddlers and children
- Life insurance for seniors
Universal life insurance
Universal or adjustable life insurance adds an element of flexibility by allowing policyholders to increase the death benefit and adjust premium payments on their policy if there’s enough money in the account to cover costs. Though this is useful if a policyholder’s economic circumstances change, the policy could lapse, and their life insurance coverage could end if the money in the account is used up.
Simplified issue life insurance
While many life insurance providers require that policy applicants undergo a medical exam so that the insurer can adequately assess their risk of death, a simplified issue policy allows applicants to skip the exam. Instead, policyholders fill out a health questionnaire and report any habits they have that might increase their likelihood of dying. The drawback to this option is that the premiums tend to be more expensive because there are no medical exams.
Guaranteed issue life insurance
A guaranteed issue life insurance policy allows users to apply without taking a medical exam or answering health questionnaires. This option is particularly advantageous for elderly applicants whose health condition would make it prohibitively expensive to be insured, but it is less attractive to younger, healthier users.
The only requirement for these kinds of policies is that the policyholder proves that they can pay the monthly premiums.
Final expense insurance
A final expense policy covers the cost of anything associated with the policyholder’s death, including funerals, medical costs, cremations and more. The median cost of a funeral in the United States is $7,640, which means that end-of-life expenses can leave families scrambling financially in their time of grieving. Generally, this kind of life insurance is only issued to users of a certain age. It is especially useful for people who may have outlasted their term policies and have no other way to cover the cost of their death. Coverage limits for final expense insurance are typically lower than many other types of life insurance.
Life insurance for babies, toddlers and children
Life insurance is available for infants and children, but unlike traditional whole life and term policies for adults, the death benefit usually isn’t the main focus. Purchasing life insurance for your child may give them guaranteed insurability in the future, which could be vital if your child should later be affected by disease or illness. Life insurance for your child can also act as an investment vehicle if it is a permanent policy. Later in life, they’ll be able to borrow money against the cash value component of their policy.
Life insurance for seniors
This policy’s low death benefit of less than $20,000 is meant to cover funeral or burial expenses for people 50 to 80 years old. The benefit may be limited in the first two years, but the policyholder may not have to participate in medical exams or answer health questions.
Choosing the right type of life insurance policy
The many types of life insurance available can be overwhelming. When shopping for a policy, the first critical step is determining the ultimate goal. Another important question to ask may be for how long the insurance will be needed. If the policy is needed for a specific time, term life insurance is probably the most affordable. It might be a good idea for those who would like a lifelong financial planning tool to consider whole life insurance or one of the other types of more specialized coverages available.
Frequently asked questions
How much life insurance do you need?
Getting the right amount of life insurance is important to ensure that all financial needs are covered. Bankrate’s life insurance calculator can offer a starting point to figure out the amount of life insurance needed. It is also a good idea to shop around and compare providers and then speak with a licensed insurance expert to make a final decision.
What is the most popular type of life insurance?
Level term life insurance is typically the most popular type of term life insurance, and whole life insurance is generally the most popular of the permanent policies. Term life insurance policies remain active for a predetermined number of years, whereas permanent policies remain active until the policyholder passes away as long as premiums are paid. Permanent insurance policies also have a cash value component, while term life policies do not. The best life insurance policy for you will depend on your individual needs. Speaking with an independent insurance agent about your needs may help you choose the best policy type for you.
How can I get inexpensive life insurance?
Refraining from high-risk activities like smoking, skydiving and rock climbing can help decrease your life insurance premiums. Some life insurance companies will also lower your premiums for healthy behavior like exercising. Typically, life insurance premiums do not vary from company to company for the same coverage as much as other insurance types do. Still, you may be able to find different coverage options from different companies that will help you find a lower rate.