Ask the expert: What are the types of life insurance?
Choosing which life insurance policy to get depends on a number of factors: your age, budget, and how you want the policy to fit into your overall financial strategy.
For example, one type of life insurance can "be a great way for some people to add additional retirement income later in life," said Ebony Ruffin, founder of Ruffin Consulting Services, a business consulting firm providing life insurance solutions to families and businesses.
Janna Herron connected with Ruffin to break down the different types of life insurance as part of Cashay's Ask the Expert series that seeks advice from experts on vexing personal finance topics surrounding all of life’s milestones. This is the second of three articles with Ruffin on life insurance.
[Interview has been edited for clarity and length.]
What are the types of life insurance?
There are two main levels of life insurance. You have permanent life insurance and you have term life insurance.
Can you explain what term life insurance is?
Term life insurance is very much similar to if you're renting an apartment or renting some type of property, you will enter into a contract. The term years are typically available in 10 years, 15 years, 20 years, and 30 years. The insurance company agrees to cover your life during that time period, as long as you're making your payments.
At the end of that term life insurance coverage, you have the option to renew your coverage for the same amount, the same face amount, but at a higher premium. You have the option to not renew your coverage, and you're no longer covered through that term policy. And some life insurance companies actually offer you the opportunity to convert your term life insurance policy into a permanent life insurance policy, which is another form of life insurance.
What happens when the life insurance term is up?
Term life insurance is attractive because it affords you a larger face amount or a larger policy coverage amount for a lower cost of premium. However, when it's time to renew — think about a time in life where you have rented an apartment. You enter into the agreement for maybe 12 months at an attractive premium or rent amount. And when it's time to renew your rent, typically you're in the same apartment and nothing has changed, but your rent amount will increase. The concept of term life insurance is very much similar to renting property. You will have the same coverage after the term period has ended, but in order to maintain that same coverage beyond the 10 years, 15, 20, and 30 years, you'll have to renew it and the cost of insurance will be more.
What's the benefit of term life insurance?
Say you definitely know that you want life insurance outside of an employer or you are self-employed entrepreneur business owner and you need life insurance, but you do not want to have a high premium amount. Term life insurance would be great to look into for parents who have children that maybe have gone off to college and you still have a mortgage balance, or you're responsible for your children's education. Term life insurance satisfies your need to make sure that the mortgage balance is satisfied as well as your children have money for education in the event that you pass away. So term life insurance is a great solution for that permanently.
What is permanent life insurance?
Permanent life insurance comes in different forms of insurance. So many on the market have heard of whole life insurance, universal life insurance and indexed universal life insurance as all forms of permanent life insurance. The goal with permanent life insurance is to provide you coverage for your life, meaning as long as you're living, you will have life insurance coverage. Now, most people are attracted to that concept. We like to make a decision and put it away, right? We don't want to think about it anymore. We want to know that it's good to go and we've checked it off our list.
What is the cost of permanent life insurance?
There is a premium price and permanent life insurance costs more than term life insurance. The best way to understand the cost of insurance is to receive a life insurance quote for that face amount in term and permanent life insurance. And usually that is the "Aha" moment where consumers understand the huge difference between term and permanent life insurance.
What are the benefits of permanent life insurance?
Outside of the difference of the cost, there are some benefits to permanent life insurance. If it's perceived as a benefit to the consumer, a cash value account. It's a way that your life insurance policy not only satisfies providing you life insurance coverage, but it also functions as a way to save for the future.
So we all enjoy the concept of saving, but we all need different methods how that works for us. When you make a monthly payment for your premium for permanent life insurance, a portion of that premium payment is credited to a cash value account. And as the insurance company has a gain from a growth in the market, a portion of that gain is credited to your cash value account. When the life insurance company experienced a loss in the market, the cash value of your life insurance account does not decline [and you can withdraw cash from the account down the road].
In theory, it's a great way to have cash value accumulation, but the best way that this sometimes works for consumers is if you're looking at permanent life insurance for someone who's younger in life, where we know the cost of insurance is going to likely not as high as someone that's older in life. They also have time on their side — time is very important with cash value life insurance. You have to think about cash value life insurance as a long-term savings benefit to your permanent life insurance policy.
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