Types Of Life Insurance Policies

Searching for the best type of life insurance policy may be a daunting process since there are so many options for getting death benefits. To find the right kind of policy, you need to take into account certain factors, such as how much you can pay for the policy, how long you want it to cover your beneficiaries, and whether you wish to invest in the policy.

In this guide, we will take a look at the different types of life insurance plans and the benefits they provide. After you understood different types and understood how much insurance do you need - feel free to check our list of best life insurance providers.

Different Types of Life Insurance

Although there are several different kinds of life insurance policies, they all are part of two primary types of insurance: term life insurance and whole life insurance.

Term life insurance: This type of insurance policy is valid for a specific period. If you’re still alive after the policy expires, you will get no payout.

Whole life insurance: This type of policy has no time limit and will be paid upon your death, whenever that may be. It also consists of a cash value element, which allows the policyholder to withdraw a certain amount while still living.

Let’s take a look at the life insurance products’ comparison to understand what each type entails and how it can benefit you. Some of the types of life insurance policies we will discuss are:

• Term Life Insurance
• Whole Life Insurance
• Universal Life Insurance
• Indexed Universal Life Insurance
• Variable Life Insurance
• Variable Universal Life Insurance
• Final Expense Insurance
• Group Life Insurance

Term Life Insurance

Term life insurance is a straightforward and most accessible type of life insurance policy. It is valid for a specific term, typically between 1 and 30 years. If you die during this period, the money will go to your beneficiaries. The death benefit may be paid out as a lump sum, monthly installments, or annuity. However, if you outlive your policy, the death benefit will stay with the insurance company.

Term life insurance policies are more economical than other types of life insurance and typically have low premium costs. The average monthly premium payment for a $500,000 20-year term life policy for a healthy 35-year-old woman is $24.39. The coverage amount varies depending on the policy, but it can go up to millions of dollars.

There are a few basic types of term life insurance:

Level Term Life Insurance

This type of policy has both a death benefit and premium fixed throughout the policy. However, since the insurers need to take into consideration the increasing costs of insurance over the duration of the policy, the premiums here are higher than other term life plans.

Decreasing Term Life Insurance

This type of term life insurance policy has a death benefit that drops every year during the policy term. The policyholder is subjected to pay a fixed premium throughout the policy life.

Annual Renewable Term Life Insurance

This is a short-term one-year policy that can be renewed every year. It is a smart choice for people who are unsure about how long they want their life insurance policy to last. As the person ages, the premium of this policy increases. Even though there is no specified term, the premiums can become prohibitively expensive for aging individuals. This is why most people only use this policy as a short-term option.

Term life insurance is an attractive alternative for young couples with children who want to get extensive coverage at an affordable cost. That way, if something happens to a parent, the family can receive a significant death benefit to replace lost income. In addition, term life is a temporary measure for people who expect their beneficiaries to no longer need extra financial security after a specific period.

Whole Life 

It is a permanent type of life insurance policy as it does not expire even if a person lives over 100 years. The whole life has a death benefit paid out in the event of the policyholder’s death. Moreover, it also has a cash value, which is a type of tax-deferred saving account that accrues interest at a preset fixed rate.

Every month, a certain amount from the premium goes into this cash value component, which offers a guaranteed rate of return. You can withdraw this cash after it reaches a certain amount.

Whole life insurance can be 5 to 15 times more expensive than a term life insurance policy with the same death benefit. As the policyholder ages, the cost per $1000 of benefit continues to increase, and by the time the person reaches 80 years of age, it gets really high. The insurance company could charge an increasing premium each year, but it could become unaffordable for most people. Hence, the premiums for whole life insurance policies are higher from the beginning, even if the person is young and has a low likelihood of claiming the benefits. The invested money from premiums can be used to supplement the level premium and pay for the life insurance’s cost for older people.

Whole life insurance is a smart option if you have dependents who require long-term financial support (like children with disabilities) or if you need cash value to cover estate plans.

There are different types of whole life insurance policies that offer other kinds of benefits and features.

Term Life Insurance vs. Whole Life Insurance

Here you can find a detailed article about term vs whole life insurance but here are some differences simplified.

Universal Life Insurance

Universal life is one more type of permanent life insurance policy that offers flexibility. Just like whole life insurance, it has a tax-advantaged cash value component along with a death benefit. However, universal life insurance allows you to increase or decrease your premiums and death benefits without getting a new policy.

This insurance requires a minimum premium to keep it in force. However, if you’ve accumulated enough cash value, you can use that amount in lieu of paying premiums, taking advantage of the accrued interest until the cash value runs out. After that, you will need to resume your selected premium payments if you don’t want your coverage to lapse.

There are a few disadvantages of a universal life insurance policy. The biggest one is that the cash value interest rate is sensitive to the current interest rates of the market. Hence, if your plan’s interest rate decreases, a lower amount of cash value will be accrued, which means you will need to increase your monthly premium to balance it out.

The adjustable premium rates make a universal life insurance policy a good bet for some people. However, it can be quite confusing and is typically not an ideal insurance plan.

Indexed Universal Life Insurance

An indexed universal life policy is a kind of universal life policy with a cash value. 

An index is a group of stock market investments like stocks and bonds such as the S&P 500 and the NASDAQ-100. The insurance company does not directly invest in the stock market. It uses its current rate of interest and the performance of a specific index to determine the interest rate on your policy. With this formula, a policyholder may get significant gains over time if the stock market performs well. 

This is how indexed universal life works: the terms of your policy will dictate how much of your cash value will participate in any gains. For instance, if the participation rate is 70% and the stock index rises by 10%, you will get a 7% return. But you won’t lose any money if the stock index goes down. Since some of these policies also have a minimum guaranteed interest, you may get a small return.

An indexed universal life policy also has an investment cap, which helps take advantage of an interest rate within a certain limit. Therefore, for example, if your policy has a cap of 20% and the stock index goes up 30%, you will only get a 20% return.

Like universal life insurance, indexed universal life policies also allow you to reduce your premium within limits as well as use your accumulated cash value to skip premium payments until no cash value remains.

Hence, the main difference between a universal life policy and an indexed universal life policy is that the former’s variable interest rate is determined by the insurer while the latter is regulated by the movement of the stock index.

Variable Life Insurance

When people ask, “What is variable life insurance?” the answer can confuse them since many think that variable life and variable universal life insurance policies are the same. However, there are a few marked differences between the two which we will learn in detail later on.

As far as variable life insurance policy goes, it is a kind of permanent life insurance created for people who want more control over their cash value interest. This policy has fixed premiums and a guaranteed death benefit. Your premiums are also invested in the stock market rather than the insurance company. 

There are various variable life insurance pros and cons. If the stock market soars, you will get significantly higher interest rates and a higher cash value. However, the money you invest goes into sub-accounts available in the policy. This means you do not have the freedom to invest in the wide variety of mutual funds on the open market. Investing in the stock market also means you carry certain risks since it is subject to many variables and can fare poorly. Note that this will not affect your guaranteed death benefit, but it will result in a lower cash value. Some fees and administrative charges are also taken out from your payment before going towards the cash value.

Hence, this type of life insurance policy only offers limited coverage and investment options.

Variable Universal Life Insurance

As the name indicates, a variable universal life policy is a combination of the variable life and the universal life insurance policies. It is similar to the variable life insurance policy, except the premium and death benefits are variable. In addition, you can also have your cash value invested in the stock market.

As we mentioned before, investing in the stock market is a risky business, but it also has the potential of higher returns if the market performs well. This and the flexibility of the premiums and benefits explain why people invest in the variable universal life policy. However, these same elements also make this policy quite complicated. The average investor may struggle to understand the terms, which is why it is essential to research more simple and appropriate insurance and investment options.

A more affordable and smarter choice would be to invest in a term life insurance policy that offers a mutual fund. It will provide you with the same type of coverage as a variable universal life policy, but it will be cheaper and easier to administer.

Final Expense Life Insurance

A final expense life insurance policy is a type of policy that provides coverage for the cost of medical care, funeral, and cremation when you die. This type of policy is often attractive for older people who do not have other life insurance and cannot afford to pay for a funeral.

The coverage provided by a final expense insurance policy is usually no more than $50,000, which is typically enough to cover end-of-life expenses. It can also be beneficial if you do not want to burden your family with the cost of your burial. Moreover, this insurance policy is also a smart option for adults looking to purchase life insurance for their elderly parents.

There are two primary types of final expense insurance policies: simplified issue life insurance and guaranteed issue life insurance.

Simplified Issue Life Insurance

This type of whole insurance policy is known as a “no exam” policy. You can get it without going through a medical exam. But you still need to answer a health questionnaire where you must list down your serious illnesses and smoking habits.

Here are a few factors that can lead to denial of your simplified life insurance:

• You have a severe underlying medical condition.
• You are a smoker.
• You are over a specific age.
• You cannot fill the form on your own.

However, if you are reasonably healthy, this is a quickly obtained policy that can help you skip the medical exam. Due to its “no exam” advantage, it is quite pricey.

Guaranteed Issue Life Insurance

This type of life insurance policy is similar to the simplified issue life insurance, but it skips the part where you have to answer the health questionnaire. As long as you can fill out the basic application form by yourself and pay the premiums, the insurance will provide the coverage. 

However, if you have a neurodegenerative disorder like dementia or Alzheimer’s disease, which prevents you from completing the application, you will not be eligible for guaranteed issue life insurance.

This type of policy is an attractive option for aging people and those who have been diagnosed with a terminal disease and cannot get other types of life insurance. Guaranteed issue life insurance policy is also quite expensive, and if you cannot afford the premiums, you should consider a different life insurance policy.

Group Life Insurance

Group life insurance is a type of insurance provided by your employer. The most significant advantage is that it is free. It is not exactly a life insurance policy since if you retire or leave the job, the coverage will lapse.

Many people think that employer-provided insurance is the best type of life insurance policy and it is enough to cover them adequately; however, more often than not, that’s not the case. Keep in mind that this policy offers low coverage, which is typically worth no more than one or two years of the person’s salary. Usually, people need an insurance policy with coverage of at least 10 times worth their income.

For example, if your yearly income is $70,000, you will need at least $700,000 worth of coverage. A group life insurance policy only offers you a fraction of that amount that may be around $100,000 to $150,000, which is not sufficient.

Best Type of Life Insurance Policy: Final Thoughts

As you can see, every life insurance policy has a different purpose and serves a different kind of target market. 

Term life insurance is often an ideal solution for many people who need life insurance. It is more affordable and offers a straightforward alternative for individuals who do not have permanent life insurance.

On the other hand, a permanent life insurance policy is often considered a lifeline for those who want to ensure their beneficiaries are adequately provided for after their death. It also has a separate cash value component, which acts as a life insurance savings account that allows cash withdrawal. 

Regarding the final expense policies, they are a final bid for people without term or universal life policies who want to get coverage for their end-of-life medical expenses, funeral, and cremation.

No matter what category you belong to, it is worth weighing the pros and cons of the different plans to choose the best type of life insurance policy for your needs.