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Life insurance. Fundamental Review. Life insurance basics. People buy life insurance to ensure their beneficiaries have enough money to maintain the standard of living after the policyholder dies.
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Life insurance Fundamental Review
Life insurance basics People buy life insurance to ensure their beneficiaries have enough money to maintain the standard of living after the policyholder dies. Life insurance is not an investment as there is no financial risk; there is a guaranteed death benefit. Beneficiary – the person/persons designated to receive the money, called a death benefit, after the individual dies. Underwriting – companies use this process to decide whether to sell life insurance to someone and how much to charge them. Sometimes physical exams are necessary before a policy is issued. The company considers several factors including: • Age • Gender • Medical condition • Tobacco use
Life insurance basics • Younger applicants in good health and do not smoke will be charged a lower premium because it’s expected they will live longer, therefore, able to pay more premiums. • Older applicants with health problems and those applications who smoke, will probably pay more because they have shorter life expectancy. • Companies may decide to not sell a policy of there is too much risk. • Underwriting guidelines vary company.
Who needs life insurance? Texas Department of Insurance states: “if no one depends on you financially, you probably don’t need life insurance. If you have people who rely on you, you probably want to have at least enough insurance for your family to pay your debts after you die, including rent or mortgage, and bills”. A person should consider their individual circumstances and the quality of life they want for their beneficiary to have when deciding whether to buy life insurance and how much they need.
Insurance guidelines Helping to make the decision: • Single adults may need life insurance to cover their final expenses and/or if they are single parents or support someone such as an elderly parent. • Parents should consider life insurance because their children depend on their incomes. Couples should consider insuring both parents, even if only one has a job. This will help the surviving parent pay for child care. • Young couples planning to start a family should consider buying life insurance because it usually costs less when you’re younger. • Older people who are grown and independent will need insurance to cover their final expenses and may wish to leave a legacy.
Buying life insurance for someone else • A person may buy a life insurance policy for anyone who gives them permission and agrees to the company’s underwriting process. • The person buying the policy is the policyholder and responsible for paying the premiums. • In some cases, an individual may want to buy a policy on someone else and name themselves as the beneficiary; i.e., if the individual is divorced and receives child support. A policy would be purchased on the former spouse. • Creditors also buy life insurance policies they loan money to. The death benefit would pay the balance of the loan if the recipient dies prior to repayment. • Businesses sometimes buy policies to cover the lives of employees who are important to the company’s operations.
Two major types of life insurance Although there are many types of life insurance policies available, they can still be reduced to two basic types: • Term • Cash Value Both provide specified beneficiary benefits when the insured dies while the policy is in force.
Contestable period • It’s important that there is full and accurate information given on the application. Life insurance policies have a two-year contestable period. If the policyholder dies within this period, the company may investigate the cause of death and look at the information written on the application. • If the company learns that information withheld that may have affected its decision to issue coverage – even if the information is unrelated to the actual cause of death – the company may deny payment of the death benefit. If a company denies payment, it must refund the premiums paid. • By law, the contestable period may not exceed two years. The company may not use information truthfully disclosed to deny payment. • Almost all life insurance policies have a suicide clause. The company will not pay the death benefit and will return the premiums paid if suicide is committed during the first two policy years.
Term insurance TERM INSURANE It’s for them… …It’s for them
Term policies • Term life policies are typically less expensive and less complicated than cash value life policies. • Term life coverage lasts for a specific period of time – such as one, five, 15 or 20 years – or until the person has reached a certain age. • The cost of term life gets higher with age. For people under age 40, term life pays the largest death benefit per premium dollar. • Term life policies usually don’t include a savings component. If the policyholder dies during the term, the insurance company pays the death benefit. • If there is no death, the policy ends and there is no death benefit. • Term life may be a good choice for young families with children.
Term life features The two most common features – convertibility and renewability. Convertibility means a person can exchange the policy for permanent life insurance of equal value without taking a medical exam or going through underwriting. For example, a person may transfer a $100,000 convertible term policy into a $100,000 cash value policy without having to answer questions about health or medical history. Converting a policy will increase the premium because cash value usually costs more than term life. Convertibility can be an important feature if a person’s health worsens and cannot qualify for a permanent policy. By converting, the individual can also build savings. Companiesusually only allow policyholders to convert term life policies before they turn 65.
Term life features Renewability means a person may extend the policy for additional terms, regardless of health and without having to pass a medical exam. This is another advantage of term life coverage as a person gets older or if they become ill – even if the individual no longer meets underwriting criteria, the company must still renew the policy. • Terms can renew every one, five, 10 or 20 years. Premiums generally go up at each renewal term. • Annually renewable premiums can be extremely high for people past middle age.
term life payouts Term life insurance is typically paid out in one of three ways: 1. Level term coverage pays a death benefit that remains the same over the term. For example, a 20-year level term policy with a $100,000 death benefit will always pay $100,000 whether the insured dies in the fifth or 15th year. Depending on the policy, the premium for level term coverage will either remain the same or increase at a scheduled rate. 2. Decreasing term coverage pays a death benefit that decreases over the term at a scheduled rate; i.e., a 20-year decreasing term policy may begin with a $100,000 death benefit that decreases by $5,000 per year. If the person dies in the 11th year, the policy pays $50,000. Decreasing term coverage may be a good option for parents since theoretically a child’s need for financial support decreases as the child gets older. Premiums typically remain the same over the term.
term life payouts 3. Increasing term coverage pays a death benefit that increases over the term at a scheduled rate, which is often linked to inflation. For example, a 20-year increasing term policy may begin with a $100,000 death benefit that increases by 5% of the face value per year. If the person dies in the 12th year, the policy would pay about $155,000. Premiums typically increase each year relative to the benefit increase.
Cash Value Life insurance TERM INSURANE It’s for them… Investment and Growth
Cash valuelife insurance • Cash value life policies usually cost more because they have additional features and benefits. The main feature of all cash value life insurance is a savings component that grows over time and may be withdrawn, invested, or borrowed against during the policyholder’s lifetime. • Initial premiums for cash value insurance are typically higher than for term life insurance because there is also a savings feature. Cash value premiums generally increase at a slower rate. • If a cash value policy is purchased at a young age and the policy is continued into middle age, the premium will likely be lower than a term life policy with a similar death benefit.
Cash valuelife insurance • A portion of each cash value premium is placed into an account that grows over time. This is the policy’s cash value. The amount may grow at a fixed interest rate, be tied to indexed interest rates, or increase if the stocks, bonds, or other securities used as investments increase. • A policy might allow a withdrawal from the cash value, used as collateral for a loan, or used to make future premium payments. If all of the cash value is withdrawn, the company will cancel the policy and the coverage will end. • When the policyholder dies, beneficiaries may receive the policy’s death benefit or the benefit plus any remaining cash value. Premiums will be higher for the second option.
Cash valuelife insurance • It takes at least three to five years for a policy to build a high cash value. • If some or all of the money is withdrawn before a certain time, there will probably have a high surrender charge and there may be a liability for income taxes on the money. • It is a good idea to keep a cash value policy for at least 15 to 20 years. About half of the people who buy these policies cash them in within five years, which is usually a bad idea financially.
Types of Cash value policies Whole-life insurance and flexible premium universal life insurance are the two most common types of cash value policies. • Whole-life insurance remains effective the policy is cashed or premium payments are stopped. The policyholder never needs to renew. • Premiums either remain about the same or increase at a scheduled rate. The premium is used to pay for the death benefit, to pay the company’s overhead costs and profit, and to increase the cash value. • Some whole-life policies are participating. This means they might also pay policyholders. • Dividends are payments and depend on the performance of the cash value investment account. Typically, the person chooses to receive the dividend in cash, add it to your policy’s cash value to purchase additional death benefits, or use it to pay future premiums. • Dividends are not guaranteed. Some policies do not pay dividends at the company’s projected rate and others might be higher than the projection.
Flexible premium universal life • Flexible premium universal life insurance allows a choice of the amount of coverage, the premium paid and the cash value built. As long as the monthly premiums are paid and the deductions don’t drain the cash value, the policy will remain in force until the maturity date. • At the maturity date, the coverage ends and the cash value is received. • Some flexible premium policies pay a guaranteed rate of return. Others are variable universal life policies whose value depends on the performance of stocks, bonds or other investments. • Rules and policy terms for flexible premium policies are complicated. The consumer should totally understand the policy before becoming a policyholder.
Flexible premium universal life • A flexible premium policy will allow the policy owner to change the amount of the premium, death benefit or cash value at any time. • Most flexible premium policies are a secondary guarantee, or a no lapse benefit. A primary guarantee is the premium payment necessary to cover the monthly deduction. If this is not enough, a secondary guarantee keeps the policy from lapsing.
coverage modification Policy riders and endorsements are additional policy benefits that may be added to a policy to expand the coverage, usually for an additional premium. Some of the most common endorsements are: • Additional term insurance adds term life coverage to a whole life or universal life policy. For example, if you need $500,000 worth of total coverage, you could purchase a $100,000 cash value policy with a $400,000 additional term insurance rider. As you make more money, you could convert some or all of the term rider into the main cash value policy. This is the same way that most stand-alone term life policies are convertible to cash value insurance. • Guaranteed insurability ensures the purchase of additional coverage, in the future, regardless of your age or health condition. These factors may still be used to determine your premium rate.
coverage modification • Accidental death provides for an increased death benefit – typically double the value – if death is the result of an accident. Certain restrictions might apply. • Disability waiver of premium allows the policyholder to stop paying premiums if they have met the policy’s definition of disabled. This lasts as long as you have the disability. This rider is typically only available to people under age 60. • Accelerated death benefitoption prepays some or all of the death benefit while the policyholder is still living and diagnosed with a terminal illness, specified disease, or a long-term care illness. People often buy this rider to help pay for end-stage care. • Spousal rider provides term insurance coverage for a spouse. Essentially, this rider combines two policies into one. • Children’s rider provides term insurance for children. Most companies require the child to be at least 14 days old, and coverage typically lasts until the child turns 21 or 25.
Settlement options Companies usually pay the death benefit as a single lump sum, but there are other settlement options. Common settlement options include: • Interest option. The amount of the death benefit remains with the insurance company, and the company pays the interest to the beneficiary on a regular basis. The company will allow principal withdrawal under certain conditions. • Fixed period. The company pays the death benefit at regular intervals, with interest, over a chosen period of time. • Life refund. The insurance company pays a set monthly amount to the beneficiary for the remainder of his or her lifetime. Under this option, it’s possible for the beneficiary to receive more than the policy’s stated death benefit if he or she lives longer than expected. • Joint and survivor. The company pays death benefits for two lives, rather than one. Joint and survivor settlement is a common option for married couples and business partners. When the first person dies, the surviving person receives a death benefit. When the second spouse dies, the beneficiary receives a death benefit. The amount of a joint and survivor payment is determined by the age and health factors of both spouses or partners.
You need to know… Prompt Payment of Death Benefits Insurance companies must acknowledge a life insurance claim within 15 days and either pay it within 45 days or explain why the payment is delayed. For an individual life policy, the company must also pay interest on a death benefit from the time the company receives the proof of loss statement to the time the company pays the death benefit. Missing a Premium Payment Most policies have a 31-day grace period after the premium’s due date during which the policyholder may pay with no interest charged. If the policyholder dies during this period, the beneficiary receives the death benefit minus the premium owed. Policy Lapse To reinstate a lapsed policy, the individual must pay some or all of the overdue premium with interest and repay or reinstate any loans obtained using the policy as collateral. Most companies will reinstate a policy within a five-year period, but may require additional health questions be answered and/or another medical exam.
Knowledge check 1. Fill in the blank: ____________________– the person/persons designated to receive the money, called a death benefit, after the individual dies.
Knowledge check 2. A divorcing male spouse wants to purchase life insurance on his current wife, however she refuses to allow underwriting. Can the policy still be written? • Yes • No
Knowledge check 3. Term insurance premium starts out low but increases with each renewal. • True • False
Knowledge check 4. The premium for whole life insurance increases at each renewal period. • True • False
Knowledge check 5. Term, Whole and Flexible Premium Life Insurance all pay dividends. • True • False
Knowledge check 6. Missing a premium grace period is 45 days. • True • False
Knowledge check 7. A flexible premium policy will allow the policy owner to change the amount of the premium, death benefit or cash value at any time. • True • False
Knowledge check 8. A portion of each cash value premium is placed into an account that grows over time. This is the policy’s cash value. • True • False
Knowledge check 9. Guaranteed insurability does not allow the purchase of additional coverage, in the future, regardless of your age or health condition. These factors may still be used to determine your premium rate. • True • False
Knowledge check 10. A settlement option known as “Interest Option” is when the company pays the death benefit at regular intervals, with interest, over a chosen period of time. • True • False