Life insurance provides invaluable protection for your family in the event of your death. It ensures the ones you care about can continue to support themselves financially when you are gone. Yet, a recent study by the Life Insurance and Market Research Association reveals more than half of Americans do not have an individual life insurance policy and 30% have no life insurance coverage at all.
Life insurance is a benefit that pays a specific sum of money upon the death of the insured. The benefit is paid to the beneficiary, or beneficiaries, named by the policyholder. The two most common forms of coverage are:
Let’s look at how these policies work in more detail.
Term life insurance is usually the most simple to understand and the most affordable. It provides individual coverage for a specific number of years. The most common terms are 10, 20 and 30 years. If you die within the term of the policy, your beneficiary will receive the full death benefit.
For example, you purchase a $1 million term life insurance policy that provides coverage for 20 years. If you die during year 17 of the policy, your beneficiary will receive $1 million. If you do not die within the 20-year term, your policy may expire and no benefit is paid.
There are three types of term life insurance:
Regardless of which type of policy you choose, there is no savings component and benefits are paid upon your death.
Because you are only purchasing coverage for a specific time, term life insurance is the least expensive of all life insurance options. Premiums are based on the amount of death benefit you purchase and the term of your policy. The insurance company will also consider your age, sex, health and life expectancy.
And, as long as you continue to pay the premiums on time, your policy will remain in force until the end of the term.
If you outlive the term of your policy, you will have a few options.
As mentioned earlier, 60% of employers offer life insurance coverage to full-time employees (source: Bureau of Labor and Statistics). Most of this coverage is provided in the form of a term life policy.
If you have coverage through your employer, your coverage will last as long as you are employed and pay the premium. The death benefit is either a specific dollar amount of coverage (e.g., $10,000) or a multiple of your salary (e.g., 2x base salary). And, it is often guaranteed issue. That means you cannot be denied coverage if you are not healthy.
If you terminate your employment, you may be offered the option to convert your coverage to an individual policy. In most cases, you will not need to provide proof of good health, but your premiums may increase.
Your employer may offer supplemental term life insurance that goes beyond your group term life coverage. You pay the full cost of this insurance, which is often elected in increments of $5,000 or $10,000, or as a multiple of your salary.
The plan typically offers a specific amount as guaranteed issue (the amount you may purchase without proof of good health). Any amount above that will require evidence of insurability.
If you purchase an individual term life insurance policy outside of work, you are paying the premium with money that has already been taxed. As a result, your beneficiaries generally will not have to pay taxes if they receive a death benefit payment. The same is true if you have a term life policy through your employer.
However, the value of your group and supplemental life insurance may be considered part of your income. If you have less than $50,000 of coverage, you most likely do not have any tax liability. If your coverage is valued at more than $50,000, the IRS will set a fair market value and you may be required to pay taxes on the difference between that value and the premiums you pay for the coverage.
In most cases, if you have less than $50,000 of group and supplemental term life insurance through your employer, you will not have any associated income taxes. Any group term coverage above $50,000 is assigned a fair market value by the IRS. If you pay less in premiums than this fair market value, the difference is considered as part of your income and you would pay taxes on it. Visit the IRS website if you have questions on how the fair market value is calculated.
Whole, or permanent, life insurance provides a guaranteed death benefit, covers you for your entire life and pays the face value up to the maximum age.
What differentiates whole life insurance from term life insurance is whole life builds cash value over the life of the policy. A portion of your premium is invested and provides you with a minimum rate of return. The cash value grows tax-deferred; you pay taxes on the value only when it is withdrawn.
Some policies may even offer you the chance to earn dividends. These may be taken as cash or reinvested in your policy to help pay the premium, repay loans or increase the death benefit.
Because whole life insurance has a cash value, it is more expensive than term life insurance. Your premium is determined by the amount of your death benefit, age, sex, health and life expectancy. As long as you continue to pay the premiums on time, your policy will remain in force.
One of the benefits of a whole life insurance policy is your ability to borrow money against the cash value of your policy. Some policies allow you to withdraw this money with no limitation. All you have to do is repay the loan with interest. If you fail to repay the loan, the final payout of your policy is reduced by the outstanding amount.
Whole life insurance benefits are not usually taxable to the beneficiary. However, there are some instances where the benefit may be taxed. For example:
If you have questions on how your life insurance policy could be taxed, visit the IRS website.
When deciding which type of life insurance product to purchase, there is no “one size fits all.” Everyone has their own answer when it comes to choosing how to protect their family from loss of income.
With term life, you can often lock in a low premium if you purchase individual coverage when you are young and healthy. This may even be cheaper than the coverage offered by your employer. However, if you aren’t healthy or are having trouble purchasing individual coverage, group insurance may be the way to go.
If you want to leave a legacy for your beneficiaries, then you might want to consider whole life insurance. These policies earn cash value and provide you with a substantial death benefit.
This side by side comparison shows you how the two different policies are different, but also what they have in common.
|Policy Features||Term Life Insurance||Whole Life Insurance|
|Policy lasts specific amount of time||X|
|Premium can change each year||X|
|Premium stays the same (level)||X||X|
|Policy offers lifelong coverage||X|
|Death benefit is guaranteed||X|
|Accumulates cash value||X|
|Annual dividends available||X|
|Death benefit for beneficiary||X||X|
|Riders to add coverage features||X||X|
If you have questions about how term or whole life insurance can benefit you and your family, connect with us. They can answer your questions, help you determine which type of coverage is right for you and figure out how much coverage you may need to purchase.
At General Insurance Services, we are a team of insurance professionals with an array of experience, backgrounds, and interests. We’re advisors with a mission to secure the future of the communities we serve. Share our knowledge through this blog allows us to get one step closer to achieving our mission.