Different types of life insurance coverage explained

Life insurance exists to help provide a safety net for your family if you were no longer around, which makes it one of the most selfless gestures you can make. The proceeds of a policy offer valuable financial comfort to help your family cover bills like the mortgage, childcare, and other day-to-day expenses.

It’s a simple transaction: In exchange for the benefit of being insured, you pay premiums to your insurance company, just like auto or health insurance.

Where life insurance can become complicated, however, is when it comes time to pick the right policy. Here, we’ll explain the different types of life insurance coverage that exist to help you determine what’s the best fit for your family.

3 key factors to consider when choosing between different types of life insurance

Because so many types of life insurance are available, consider these three key questions as you evaluate your options:

1. What role do you want life insurance to play in your financial plan?

If you’re looking for insurance coverage to first and foremost protect your family when you need it most — the years when your children are young, you still have a mortgage or student loan debt, or you and your spouse are still saving for retirement — a term life policy will likely be the most affordable and simple option available to you. If instead, you’re looking for coverage throughout your life that builds a cash value and can potentially reduce estate taxes (if you have an ultra high net worth), permanent insurance may be a better option.

2. How much can you afford?

Permanent types of life insurance have much higher monthly premium payments than term life insurance, so if your monthly budget for coverage is limited, you may not be able to get the full amount of coverage you need with a permanent policy.

3. How is your health?

If you’re reasonably healthy, a medically underwritten policy will be the most affordable option. But if you have pre-existing conditions or have other risks, you do still have options such as simplified issue term life or guaranteed issue permanent insurance. Coverage will just be significantly more expensive.

For most families, term life insurance is the most simple and cost-effective of all the types of life insurance available on the market.

Term life insurance

Our personal favorite and the only one we offer at Haven Life is term life insurance. This type of coverage is simple to understand, easy to buy and provides dependable coverage at an affordable price. A healthy 30-year-old man can buy a 20-year, $500,000 Haven Term policy, issued by MassMutual, starting at $21 per month.

As the name conveys, term coverage lasts for a specific period of time — typically 10, 15, 20 or 30 years. Once the term length is up coverage ends, or you can renew it, but at a higher price.

Why is term life insurance a popular choice? Because it offers coverage during the years your family needs it most and at a reasonable price. Depending on the term length and amount of coverage you purchase, it could offer protection until the mortgage is paid off, your partner is retired, or the kids are adults. If you need help figuring out the right amount of coverage and term length for you, a free online calculator can help take out the guesswork.

Term life insurance itself comes in a few varieties, so if you think it may be the right choice for you, here’s what you should know.

Medically underwritten term life insurance

With medically underwritten term life insurance, the healthier you are, the more affordable your life insurance will be. While different types of life insurance can give you coverage without taking into account your medical history, a medically underwritten policy gives the life insurance company a chance to better understand the risk of your personal policy, instead of making assumptions about your health. And that often means lower pricing if you’re reasonably healthy.

Also, because the insurance company fully understands their risks, these policies can offer higher death benefits. Haven Life offers policies up to $3 million, depending on your needs and your age.

Medically underwritten term life insurance is the only coverage we offer at Haven Life. It takes into consideration your health history, family history, and lifestyle to personalize pricing to you. Often, a medical exam is required to finalize coverage.

However, there are cases with Haven Term applicants where a medical exam isn’t needed and you can receive your coverage instantly online. However, it’s very important to be honest when completing the application because the issuance of the policy or payment of benefits may depend upon the truthfulness of the answers given.

Simplified issue term life insurance

Simplified issue policies offer term coverage without a medical exam. Because no medical underwriting is conducted, these policies are usually at least several times more expensive than a medically underwritten policy.  For example, the same 30-year-old man who could buy a 20-year, $500,000 Haven Term policy for $21 per month would pay $63 per month for a 20-year, $500,000 simplified issue policy from Phoenix Life Insurance Company, Inc., according to TermLife2Go.

When is a simplified issue policy a good choice? It might be right for you if you suffer from chronic health issues that disqualify you from medically underwritten coverage.

Simplified issue is a popularly marketed completely online term life insurance, as opposed to most other types of life insurance that will require an in-person medical exam. When shopping for a policy online, you’ll want to ensure you’re buying the one you really want – whether that be simplified issue or medically underwritten. Typically the simplified issue policy has smaller, limited term lengths and it costs much more than medically underwritten term life. (More tips on what to watch for when buying a policy online here.)

Return of premium policies

One of the biggest reservations people have about term life insurance is that you’re paying premiums for a what-if scenario. And, in almost all cases, you hope the what-if won’t happen. And then where do all those premiums go? The answer in most cases is that the insurance company keeps your premiums in order to pay out claims to beneficiaries of customers who die during their term. A notable exception is the return of premium policy.

A return of premium policy, which in some cases can also be an optional rider that’s either available for a fee or is included as part of a term insurance policy, refunds the insurance premiums paid if you outlive the term of your policy. Generally, if you purchased a 30-year term life insurance policy, for example, and lived beyond the duration of the policy, most or all of the premiums you paid get reimbursed to you. Yes, that’s a lot of money coming back your way — but RoP riders often raise the price of your premiums significantly for this feature.

Let’s do a cost comparison.

Our 30-year-old man could pay anywhere from $90 to $100 per month for a RoP, 20-year, $500,000 policy according to State Farm and Policygenius quote tools. Comparatively, a medically underwritten Haven Term policy issued from MassMutual would cost the same gentleman $23 to $47 per month depending on his health. Assuming he’s in good health, an RoP policy will cost him at least $15,000 more over the life of the policy.

Keep in mind, the policyholder does get all or most of that money back at the end of the term. Some think of it as forced savings, but others observe that an RoP policy lets an insurance company earn money on your money over time instead of you. Additionally, if you let the return-of-premium policy lapse before the term ends — due to canceling or no longer paying premiums — you usually can’t reclaim the premiums you already paid. It works only at the end of the coverage term of the policy.

Maybe that’s why, according to LIMRA, return of premium policies only represents a small fraction of term life sales.

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Permanent life insurance

If you want a life insurance policy that lasts the rest of your life, then permanent life insurance may be the right choice. A number of types of life insurance fall under the umbrella of permanent life insurance. The most common are whole life and universal life. Unlike term, permanent policies provide coverage for a lifetime and include a cash value component that can grow or shrink over time.

These features are why permanent policies can cost anywhere from 5 to 20 times more than a term life policy. Due to the significant difference in premium costs, permanent policies can be less affordable for younger, cost-conscious families. Or, it can cause people to get less death benefit coverage than they need due to being limited by what they can afford. Many advisors recommend a mix of term life insurance and permanent, to keep costs reasonable and ensure families have enough coverage if they want some of permanent insurance features.

When you pay for a permanent life insurance policy, part of the money keeps your protection in place just like a term policy would do. And for some permanent policies, another part of your payment goes into a cash value feature.

This cash value component can build each year as you make payments, so over time, your whole life policy can become more valuable. The policyholder may access their cash value, through partial surrender for a lump sum or loans, for any reason such as emergencies or to help supplement their retirement income.

However, you should know that accessing cash values through borrowing or partial surrenders will reduce the policy’s cash value and death benefit, increase the chance the policy will lapse and may result in a tax liability if the policy terminates before the death of the insured.

Whole life policies have long-term implications on your financial plans, so we recommend you consult a financial professional before buying a whole life policy. If you are interested in the benefits of this type of policy, our parent company, MassMutual, has agents who would be glad to help.

Permanent life insurance policies come in several varieties with distinctions that are important since they will directly impact your premiums, coverage, and the overall complexity of managing the product.

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Whole life insurance

One of the most popular permanent types of life insurance, a whole life insurance policy features a coverage amount and a level premium that won’t change during the life of the policy. This type of policy has the potential to accumulate cash value over time.

Whole life coverage requires medical underwriting, which means your insurance company will ask questions about your health, your family’s health history, and your lifestyle and occupational choices in order to determine eligibility and pricing.

To get an understanding of pricing for permanent policies, State Farm would offer our healthy 30-year-old male a $500,000 policy starting at about $460 per month. It’s lifetime coverage with a cash value component… but it also costs 20 times more per month than a term life policy. Of course, if you wish to continue a term policy after its term ends, you would be faced with much higher premiums.

Universal life insurance

Like whole life insurance, universal life is permanent coverage, and it accrues cash value over time. But a key distinguishing feature of universal coverage is that it offers flexible premiums that may allow you to adjust how much you pay each year. You will need to, at least, pay the minimum premium amount of the policy per month – either through premiums or through the policy’s account value – or coverage will end.

Universal coverage is more complicated than whole life — with more moving parts.

For example, with a universal policy, you can adjust your death benefit (and with it your premiums) during the life of the policy.

This can be a convenient feature later in life when you don’t need as much coverage or if you no longer can afford the policy’s original premiums. This feature just scratches the surface of the customizations a universal policy can offer.

When you buy a policy, the insurance provider denotes a minimum guaranteed interest rate which will be applied to your account value. However, if the insurer’s portfolio earns more than the minimum interest rate, the company may credit the additional earnings to your policy. This is why universal life policies have the potential to provide more account value accumulation than a whole life policy some years, but less in other years.

You should understand that your premiums could rise. If the cost of maintaining the policy (called the cost of insurance, or COI) goes up, the insurer can raise your premiums without increasing the death benefit. If the new, higher premium is more than you can afford or want to pay, you can use the accumulated cash value in your policy to pay it. Once that cash value is depleted, you could lose the policy if you are not able to continue paying the premiums, even if you’ve already been paying for decades. This scenario is possible when benchmark interest rates fall significantly from the interest rates assumed when you first take out the policy.

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Indexed universal insurance

With an indexed universal policy, the cash component of the policy is tied to the performance of a predetermined stock index, usually the S&P 500 or the Dow Jones Industrial Average. If the index makes gains, your policy could increase in value along with it.

In addition, your policy contract will clearly identify how much your investment could benefit from stock market gains. An indexed policy may guarantee against losses but cap any gains beyond a certain level. Or your policy’s account value may only participate in a certain percentage the performance of the index it’s tied to. For example, if your policy has an 80 percent participation rate, a 5 percent annual increase in the index would result in only a 4 percent increase in your policy’s account value.

These are factors that you’d want to discuss with your financial professional if you were considering an indexed universal policy.

Variable universal coverage

In a variable universal life policy, the policyholder chooses investment accounts in which his or her premiums are allocated. As with any type of investing, it’s possible to see significant earnings or losses.

While long-term investment gains might outpace the guaranteed returns of a whole or universal life policy, there are risks. In years when the market is down, your cash value will be diminished and could result in you having to pay higher premiums to boost your cash value.

In addition, variable universal life insurance, compared to other types of life insurance, typically has more fees built into your monthly premium to cover management, trading costs, and more. This is one reason many families may be better off purchasing a lower cost term life insurance policy and investing the difference on their own, with reduced fees and more control.

If you choose this type of policy, remember that it requires constant attention since the market changes quickly. For example, if the accounts in which the premiums are invested drop significantly, the loss of account value could mean higher policy costs to pay for the death benefit. If you are unable to pay the higher premiums or do not have sufficient cash value to cover the policy costs to maintain the policy’s death benefit, the policy would no longer fulfill its core purpose of providing coverage to the policyholder’s beneficiary.

Guaranteed issue life insurance

For applicants who are older or not in good health, a guaranteed issue policy may be their only option for coverage.

Guaranteed issue works as the name implies and offers lifelong coverage like other permanent policies. All applicants are guaranteed approval on coverage, but that approval comes with caveats.

Guaranteed issue policies typically have a death benefit maximum of around $50,000 or less and come with a high premium. Because anyone can get them, regardless of their current health, the risk pool is significant for insurers. And because the average policyholder risk is high, premiums are high for lower coverage amounts.

Due to the costs and coverage restrictions, this type of life insurance is only recommended for individuals who don’t have other options, such as a lower cost medically underwritten term life insurance policy.

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Life insurance comes in so many forms

If you have a partner, child, or family member who relies on your income for their financial health, then you probably need life insurance. The many types of life insurance coverage that are available cater to different budgets, financial needs, and even health statuses so that anyone can find the right coverage.

A term life insurance policy is often a good choice that appeals to people who want affordable coverage to last for a specific time period, such as until their loved ones are no longer financially dependent upon them.

If you want coverage for the rest of your life along with the ability to build additional cash value within your policy, a permanent policy can offer that. You can work with an insurance company or licensed agent to select the right policy for you. It’s a great idea to ask an insurance agent to clearly explain the worst-case scenario that could apply to the cost and coverage associated with the policy that you’re considering.

Buying the right coverage does not need to be complicated. Consider what price fits into your budget as well as what role you want life insurance to play in your financial plan. And, most importantly, don’t lose sight of the fact that you’re doing all this research and buying a policy to help financially protect the most important people in your life.

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Haven Term is a Term Life Insurance Policy (DTC 042017 [OK1] and ICC17DTC in certain states, including NC) issued by Massachusetts Mutual Life Insurance Company (MassMutual), Springfield, MA 01111-0001 and offered exclusively through Haven Life Insurance Agency, LLC. Policy and rider form numbers and features may vary by state and may not be available in all states. In NY, Haven Term is DTC-NY 1017. In CA, Haven Term is DTC-CA 042017. Our Agency license number in California is OK71922 and in Arkansas, 100139527.

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