If you’re considering purchasing a life insurance policy, you probably hear a lot of terminology like “whole life,” “universal life,” “term life,” “ROP,” and more. I’ve had several clients ask me if life insurance and, specifically, term life insurance is a good investment.
My answer always is it depends on your situation. You see, life insurance isn’t one-size-fits-all. Should you invest in life insurance? If you have any assets or dependents, the answer is likely yes. But as for the type of life insurance policy you should choose — that requires a closer look.
If you’re wondering if term life insurance is a good investment, there are some things you should know before you take the plunge. Blindly investing in term life insurance can end up being a costly mistake. In fact, I often tell clients that a term life insurance policy may be the most expensive policy you ever purchase. Here’s what you need to know about term life insurance.
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Understanding Term Life Insurance
I decided to look up the definition of term life insurance to see where Google was directing the general population. I thought, “how different can definitions really be?”
Well, first, there are many ways to define term life insurance. Although each definition may have a different spin, one constant remained in my search results: a term policy can become the most expensive life insurance policy you will ever purchase.
In my search, I also found a ridiculous number of links to ‘apply’ for term insurance. There are many insurance carriers and sellers out there, all promising a great deal. No wonder people are so turned off by life insurance when it’s so hard to find a simple definition and explanation without a sales pitch.
Getting frustrated with all the life insurance ads, I went to my tried and true Oxford English Dictionary: Term Life Insurance: life insurance that pays a benefit in the event of the death of the insured during a specified term.
I’m sure that the average investor searching for life insurance guidance has run into all the ads and sales pitches. If you visit financial sites, you will find plenty of explanations, but I’m confident those same sites would “helpfully” point you toward term life insurance products they “happen” to sell.
Don’t get roped into sales pitches. Work with a financial advisor who understands your unique needs and situation before deciding to invest in a term life insurance policy. Always do your research and learn as much as you can before putting your money on the line.
To help decide if term life insurance is a good investment for you, I’ve decided to break down the different types of term life insurance policies and why purchasing term life insurance can end up being surprisingly expensive.
“I’m a big crier in general. The right life insurance commercial will take me out for a couple of days.” – Isaac “Ike” Barinholtz
Purchasing a Yearly Renewable Term Policy
One of the most common types of term life insurance you’ll see is a Yearly Renewable Term or “YRT” policy. These policies are also known as an Annual Renewable Term (ART) or Increasing Term policies.
The answer to understanding these life insurance policies is right in the name. This life insurance policy is renewable annually. You don’t have to show proof of insurability when you renew. Now, when you don’t have to show evidence of insurability, of course, this is a bonus that makes renewing the policy much easier. But remember that the YRT premiums increase every year, meaning the premiums will quickly become cost-prohibitive. Your premium will continue to increase each year based on your age and at the face amount of the policy. For this reason, people don’t usually see this type of term life insurance as a good investment long-term.
The ART goes into effect with other term policies as well. This happens when the term-length is exhausted (as in 10, 20, or 30 year-term policies on year 11, 21, or 31, respectively). If you’ve decided to keep a 20-year term policy after 20 years, the policy becomes an ART. Your locked-in premium expires, and you should brace yourself. You have a BIG premium increase coming (you’ll swear it’s a typo)! It will continue to increase each year based on your age.
So, if you’re looking for a long-term policy, ART, YRT, or Increasing Term policies, are likely not a good choice. When in doubt, keep in mind that a premium that sounds too good to be true, probably is. The premium starts low, but it won’t stay that way.
What’s really important with any term policy is that you find out how long the insurer has locked in an annual premium. You don’t need an unwanted surprise of a premium that increases far sooner than you initially thought. As my dad used to say, “The big print giveth and the small print taketh away!” Always read the fine print!
“You don’t buy life insurance because you are going to die, but because those you love are going to live.” – Unknown author
Guaranteed Level Term Life Insurance Policies
Guaranteed Level Term life insurance, also known as a Specified Level Term policy, can range from a five-year term policy, up to a 30-year term. If you want to purchase a 10-year, 20-year, or 30-year term, you certainly can — even in five-year increments (15-year term or 25-year term), dependent on your age.
A Guaranteed Level Term policy means that your death benefit remains level and your premium won’t increase during the chosen term length once you’re approved.
If you invest in a five-year term life insurance policy, your premiums are locked in and won’t increase over those five years. The same applies if you purchase a 20-year term policy — once approved, your premiums are locked in and won’t increase for 20 years. The same idea with a 30-year policy and so on — you get the gist.
So, how does a company approve you for a term life insurance policy? The insurance company will look at several factors during the approval process, such as your age, gender, overall health, family health history, background, and life expectancy (as determined by the insurer and actuaries). If you apply for an extensive policy, there may be additional factors the insurer will want to consider for assessing suitability and justification of the policy.
Group Term Policies
Because I feel it’s worth mentioning, I’m taking a side-step here regarding five-year term policies. In my experience, insurers group many of these policies with other individuals to form a Group Term Policy.
In a group term life insurance policy, you’re ‘pooled’ with a group of other individuals. Group term life insurance can include policies through an employer, professional organization, or a separate group plan offered elsewhere. The premiums may be YRT and increase each year or age-banded, which means premiums increase every five years based on the ‘age-band’ you fall into. For example, one age-band might be ages 55-59, and the next jump occurs at ages 60-64 and then again at ages 65-69.
I think investing in group term life policies are a good idea under two circumstances; the first is if you need life insurance coverage, but only for the short-term. The second reason is if you’re uninsurable or unable to secure an individual life insurance policy based on your health situation. A group term policy allows you to have some life insurance in place.
Group term policies may also cease when you reach a certain age, even though you’re diligently paying your premiums for years. I’ve seen some insurance carriers cover individuals until age 85, and others cease coverage at 70. Again, please be sure to read the fine print of your particular policy or contact your life insurance carrier for clarification.
“I detest life insurance agents: they always argue that I shall someday die, which is not so.” – Stephen Butler Leacock
Considering a Decreasing Term Policy
Another life insurance option is a Decreasing Term Policy, which is also known as Mortgage Term Insurance. An interesting aspect of this type of policy is that the death benefit declines each year, in direct correlation to the declining mortgage balance it’s tied to. Over the policy’s term, the death benefit usually drops in one-year increments. Although the mortgage is decreasing, the premiums remain level, because the cost of insurance (COI) increases each year within the policy as you age. The COI is the actual cost of insurance protection (based on your age, gender, health, and death benefit amount).
If mortgage term insurance is tied to the lienholder, the proceeds go directly to the lender for payoff in the event of your passing.
A decreasing term policy highlights an aspect of term life that makes it so appealing (and a good investment in certain situations). You can purchase a significant death benefit for very little compared to a permanent life insurance policy. To understand life insurance versus permanent life insurance, ask yourself, “do I want to rent my life insurance policy or own it?” For investment purposes, owning something is almost always better.
You can think of term insurance as pure life insurance. This means that there is no cash accumulation building within the policy, and the company will use the premiums you have paid into the policy to cover the cost of insurance. If you pass away within the term-length of your contract, and you’ve continued to pay the premiums without your policy lapsing, the insurance carrier will pay the death benefit to your designated beneficiaries.
Term insurance is also usually renewable at its expiration. Still, please be aware that the new premiums are based on your current age at the policy term end and will continue to increase each year after that. At which point, the term policy becomes an Annual Renewable Term (ART) policy. If you pass away after the term policy has expired, and you didn’t maintain those newly increased premiums, there is no payout to your beneficiaries.
Return of Premium (ROP) Term Policies
If you just can’t stand the thought of ‘throwing money away’ on a standard term policy, another option for investing in term life insurance is a Return of Premium (ROP) policy. The minimum term-length is usually 15 years and goes all the way up to a 30-year ROP term in 5-year increments.
What makes an ROP term policy a hot commodity is at the end of the term-length, the company returns all the premiums you have paid into the policy. It’s not an investment vehicle where you’re going to earn interest, but instead, you can think of it as a forced savings account.
Keep in mind that an ROP term policy will often have more expensive premiums than a standard term policy, but the premiums you have paid will be returned to you (at the end of the term-length you chose). An ROP term policy ends up as a zero-net cost to you while providing a benefit to your beneficiaries in the event of your death. You can’t really lose with an ROP term policy — it’s a smart option if you want to invest in term life insurance.
Even better — the longer the term length of your ROP term policy, the less expensive the annual premium; this is the complete opposite of a standard term policy. So, if you’re looking at a 25-year ROP term, and also a 30-year ROP term, the 30-year ROP annual premium will be less expensive than the 25-year ROP yearly premium.
The ROP term policy usually has a maximum age for policy applicants; with some carriers, this is age 50. Depending on your current health or health history, some carriers also won’t issue an ROP policy if you’re approved at a substandard rating (below a “Standard Non-Tobacco,” or what carriers call “Table Rated“). Even with some idiosyncrasies, the ROP term is still a great term life insurance investment since the premiums you’ve paid into the policy will likely get returned to you.
“Would you agree that the only person who can take care of the older person you will someday be — is the younger person you are now?” – Unknown author
The Must-Have Feature If You Invest in a Term Life Insurance Policy
One particular insurance provision I think is an absolute must for a term policy is the Conversion Option provision. Note that not all insurance carriers offer this provision, but it’s something to seek out. The conversion option allows you to convert your term policy to a permanent individual life policy without having to show proof of insurability.
The conversion option is especially helpful if (God forbid) your health changes for the worst. The likelihood of you getting approved for a new policy would be slim, if at all. So, a conversion feature really protects your life insurance coverage. I’ve had this happen to a few clients, unfortunately. They couldn’t obtain a new policy because their health had deteriorated. For them, the conversion option was a godsend.
One reason why term policies are so cost-prohibitive is that without the conversion option, you lose out. If you become ill once the policy term length is exhausted, you may not have a choice but to maintain that expensive term policy as it increases every year. Otherwise, you could leave behind a significant financial burden to your beneficiaries.
Explore the options available for your policy. Some insurers allow you to convert your entire policy to a permanent policy, or even do a partial conversion with the conversion option. You may even maintain the term portion that you didn’t convert, but please check with your carrier. With this provision, there is usually an age-certain that you must convert your policy by, or the provision is lost. From what I’ve seen, some insurance carriers will let you convert your policy before your 65th birthday, and others allow you to wait until the age of 70.
I can’t speak highly enough of the conversion option. I believe it can be a lifesaver in the event you happen to become uninsurable and are no longer able to secure a new policy once your term policy becomes Annual Renewable Term (ART). If you’re wondering if term life insurance is a good investment idea, consider the conversion option.
“Fun is like life insurance; the older you get, the more it costs.” – Kin Hubbard
No Matter What You Choose, Life Insurance is a Necessary Investment
So, should you invest in life insurance? Is it worth it? As I always say, it depends on your individual situation and other factors. Generally speaking, yes, I would typically recommend investing in some type of insurance policy.
Investing in insurance is particularly important for single women or those who are divorced. You need to protect your assets! As a helpful side note, women typically pay 15-40% less than men for life insurance (even for the same policy).
Buying life insurance is a very personal decision and one that you should review as your situation changes. While some experts recommend that you buy only term insurance, it ultimately gets down to what works for you and your family. Term insurance may fit a need for a certain amount of time, but if you don’t fully understand the policy that you’ve purchased, term-length, or provisions, it could ultimately be the most expensive life insurance you can buy.
If you’re still balking at the idea of purchasing a life insurance policy, remember this: life insurance isn’t to benefit you; it’s meant to provide for those you have left behind. Protect your loved ones by exploring all your investment options. To help you remember what you need to know about term life insurance, I’ve included a helpful guide: 5 Types of Term Life Insurance Checklist in our resource library.
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