Life Insurance: Understanding a Key Part of Your Estate Plan
Many estate plans include some form of life insurance. Understanding the different types of life insurance is critical for selecting the best product to meet your needs in light of your overall estate plan. This article, the first in a three-part series, explains the basics of term and traditional whole life insurance.
There are two principal types of life insurance: term and whole life. A term policy is the simplest form of insurance, which pays only if the insured dies during the stated term. If the insured outlives the term, no other benefits are available. Level term means the death benefit stays the same during the duration of the policy. Declining term means the death benefit reduces over the course of the policy’s term. Term policies can be purchased by individuals or may be offered as a benefit to a group of people under a “group term” policy. Commonly, group term policies are offered as a benefit by employers, labor unions or membership associations. The employer or other association purchases coverage on a wholesale basis, so the coverage costs less per person than if each individual purchased his or her own policy. The employer or other association negotiates the terms of the master contract and offers members coverage as an included benefit or the option to buy into coverage.
Whole life insurance is sometimes called “permanent insurance.” It pays a death benefit whenever you die, even if you live to be very old. There are several subcategories: traditional whole life, universal life, variable life and variable universal life. Traditional whole life policies are designed to have premiums and benefits that never change during the life of the policy. As the person insured by the policy becomes older, however, he or she is more expensive to insure than at younger ages. But most people don’t want (or can’t afford) to pay increased premiums as they age. The insurance company keeps premiums level by charging premiums in the early years of a policy that are higher than what is needed to pay claims, investing the extra money, and then using the “overpayments” to supplement the level premiums to help pay for the higher cost of insurance for the older insureds. When these “overpayments” reach a certain amount, the insurance company is required to make them available to the policyholder as a “cash value” benefit, sometimes called “cash surrender value.” It is important to understand that cash surrender value benefits are an alternative benefit of the policy, but are not in addition to the death benefits. If a policy holder chooses to receive cash benefits from his policy, the amount of the death benefit is reduced accordingly, or the policy may be forfeited entirely.
The next article in this series will focus on variable and universal whole life insurance and survivorship insurance.
If you are interested in learning more about life insurance, please contact a member of the Stokes Lawrence Estate Planning Group.