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Term life insurance is the original form of life insurance and is considered to be pure insurance protection because it builds no cash value. This is in contrast to permanent life insurance such as whole life, universal life, and variable universal life which add an investment component on top of the life insurance that builds cash value.
Term life insurance provides coverage for a limited period of time, the relevant term. After that period, the insured can drop the policy or pay annually increasing premiums to continue the coverage. If the insured dies during the term, the death benefit will be paid to the beneficiary. Term insurance is often the most inexpensive way to purchase a substantial death benefit on a coverage amount per premium dollar basis.
Term insurance functions in a manner similar to most other types of insurance in that it satisfies claims against what or who is insured.
As an example; auto insurance will satisfy claims against the insured in the event of an accident, a home owner policy will satisfy claims against the home if it is damaged or destroyed by say an earthquake or fire. Whether or not these events will occur is uncertain, and if the policy holder discontinues coverage because they have sold the car or home the insurance company will not refund the premium. These are all types of pure risk protection, and so is Term life. The exception is "Return of Premium " term, which will return premiums paid if the insured outlives the policy. See Below. Term insurance is a pure death benefit and its primary use is to provide replacement of lost financial responsibilities of the insured. Such responsibilities may include but are not limited to consumer debt, dependent care, college education for dependents, and mortgage protection.
Level term insurance is where the premium is guaranteed to be the same for a given period of years. The most common terms are 5, 10, 15, 20, and 30 years. However, these days almost any term beyond 10 is available.
In this form, the premium paid each year is the same, and is based on a) the summed cost of each year's annual renewable term rates, with, b) a time value of money adjustment made by the insurer.
Thus, the longer the term, the higher the premium, because the older, (latter years) are more expensive and are averaged into the premium.
Most level term programs include a renewal option and allow the insured to renew for a maximum guaranteed rate if the insured period needs to be extended. This clause is typically only invoked if the health of the insured deteriorates significantly during the term.
Though it's called Term Life insurance this type of policy has more in common with forms of Permanent life insurance than true Term with a Pure Death benefit.
ROP policies offer a partial or complete return of premiums in a lump sum if the insured is still alive at the end of the guaranteed level period -- usually 15, 20 or 30 years. If the insured dies during the term, the death benefit is paid as with traditional term life insurance without a return of premium.
The premiums for ROP policies are higher, because the policy owner receives the premiums paid over the term of the policy.
How this works is that the extra premiums are set aside in a savings vehicle designed to accumulate to an amount of money equal to the premium paid in at the end of the term. The amount is then returned as a refund of premium.
Since these policies have a fixed end point that is typically sooner than that of a whole life policy ROP policies avoid much of the insurance cost of the latter years of one natural life. With that, the premiums can be within reason. Typically premiums on these policies are reasonable for those under 45 +/- and in good health.
Although the returns on these policies may be less than those that might be achieved in other investment vehicles, when compared to other "safe" styled investment such as CD's, high quality bonds, etc., the returns are not unreasonable.
Like Permanent products some ROP products allow loans on a percentage of premiums paid after a designated number of years have passed. ROP products are more attractive to healthier people who believe they will live past the term and receive the large sum ROP to apply toward future expenses. This might include future Life insurance premiums, or something more frivolous. A strategy can easily be developed with your Insurance agent.
Conversion generally allows the policy holder to convert a term insurance policy to a permanent program (Whole life) with an equal or lesser death benefit without proof of insurability.
The advantage associated with this privilege is that a person can obtain the necessary coverage for a young family, by purchasing the inexpensive term insurance. However, they have the privilege to convert to a permanent policy as cash flows increase or as coverage needs decrease.
One example may be a 30 year old who purchases a 30 year tem for $1 million. 25-30 years later his/her insurance needs are not as high (Children are grown, mortgage is paid down, etc) but certainly some debts, obligations and insurance needs are still present. Prior to the policy ending the insured would "convert" to a permanent policy, with a smaller death benefit that meets the needs and carries them through the balance of their natural life.
A general rule of thumb is to buy life insurance equivalent to eight to ten times your annual gross income. Although, 15 to 20 times would not be considered excessive or uncommon especially for young families. You should consider individual factors such as lifetime income potential, ordinary expenses, extraordinary expenses, debt, dependent care, college education for dependents, mortgage protection, and federal estate taxes.
Designed to protect against the loss of a family home -- mortgage protection -- is an important factor that should be considered in the overall individual insurance coverage package. Traditionally, this type of insurance was a declining benefit term where the death benefit declined in tandem with the mortgage amount. In many cases this was offered through the mortgage carrier with the lender as the beneficiary. Today this protection is offered through many channels in the form of declining and level benefit term policies.
Essentially these policies are underwritten and issued in the same form as other term life policies. With the decline in term and other life insurance premiums over the last several years the declining benefit policies have lost much of their advantage.For those in good health, adding a new term life policy that incorporates all the financial needs will generally be more cost effective.
As is true with all types of insurance policies there are situations where this type of policy might be the best fit. Since each situation is unique we suggest a consultation with your own or one of our Insurance consultants.
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Level term Life Insurance.
Return of Premium Life Insurance.
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