Insurance is one of those boring topics we often excuse away. Not married. No kids. No house. Pretty healthy… I don’t even need it!
Spoiler alert: You do. You really, really do.
If anything were to happen to you, a life insurance policy would put money in the pockets of your family, friends, or charity of your choosing (AKA your beneficiaries). You could even put the money in a trust for the explicit purpose of continuing top-notch care for your cats.
But let’s pretend for a sec that you don’t care about what you leave behind. Getting a life insurance policy is still worth doing before you’re 30 because…
A life insurance policy isn’t just about providing a comfy safety net for your loved ones post-mortem. You could choose to use your policy for your own gain while you’re still alive to reap the rewards.
So, basically, life insurance is way more beneficial and flexible than it’s given credit for!
Now that you know why you need it, and maybe have a little more enthusiasm about it, let’s talk about the four primary types of policies you can tap into.
Term life is as simple as life insurance can get. You pay to get a policy for a fixed period of time — usually somewhere between 10 and 30 years — and your beneficiary will get a cash benefit if you pass away during that time. But… what if you don’t? Well, that’s the downside of term life.
Generally, once the term comes to an end, your insurance policy simply expires. You’ll stop paying premiums and nothing will be paid out to you or your beneficiary. Think of term life like a contract between you and your insurance company. When it ends, it ends. That’s it. No refunds.
So, why might you want to buy a term life insurance policy if you’re young and healthy? Let’s review.
Generally, term life is one of the most affordable life insurance policies (up to 6x to 10x cheaper than a whole life policy).
So, you can buy an affordable term life policy “just in case” to cover you now while you’re young, and choose a different policy later on that better suits your future needs. On that note, some term policies are convertible, which means you can transform them into a whole life policy without having to get a new medical exam. That’ll be good news when you turn 45 and all those all-nighters start to catch up with you.
Best of all? Term life insurance policies are relatively simple to understand and easy to get. Plus, they have a guaranteed benefit, which means your beneficiary will receive a minimum amount even if you pass away while the contract is still in the “accumulation phase” (think of it like a waiting period, all policies have one).
Term life has inherent limitations. While cheap to get when you’re young, renewal costs increase as you age. Plus, unlike some other policies, your cost will never decrease during your term. For those reasons, it’s best to look for a policy that locks in premium for the entirety of your term, instead of adjusting them as you grow older.
But, perhaps one of the biggest downsides of term life is the way the contract is written. You might pay into a policy for 30 years, only for it to just disappear. That’s good (because it means you’re still alive and well), but it sucks to think you “wasted” all that money. No, a safety net is never truly a waste, but term life has no cash value like other policy types, so it will be a bittersweet goodbye.
If you buy a whole life insurance policy, it’s yours to keep for your entire lifetime. Plus, most policies have level premiums, which means they won’t go up — not for inflation, age, sickness, or any other reason. But if locking in premiums for the rest of your life sounds intimidating, hear this…
A whole life policy has a sweet cash value! As you pay against your policy, your insurer will build up a cash savings account separate from your death benefit. This money earns interest with time and, if you want to tap into it, you can make a withdrawal or take a loan against it.
Thinking long term, a whole life policy can be considered both a safety net for your loved ones and an investment vehicle for you.
The biggest perk of a whole life policy is that you’re locking in coverage for your whole lifetime. An almost-equally sized perk is that you’re getting that coveted cash savings account that will only grow bigger with time.
Whole life also has a guaranteed death benefit amount. You’ll decide on the size of that benefit when you sign your policy. Plus, you can lock in your premiums at the start of your policy, which means the sooner you buy in, the better.
Because a whole life policy doesn’t expire, and it accumulates cash value, it does come with more expensive premiums compared to term life. But, unlike term life, you can reap the rewards of your investment during your lifetime.
A major consideration with whole life comes down to the fine print. It’s good news that you can lock in your premiums, but you generally can’t adjust them downward. Likewise, the death benefit usually can’t be increased, so you’ll want to think very long-term when choosing your policy.
Lastly, while a whole life cash savings account has plenty of perks, you need to look at figures like its growth rate. Other types of policies, like universal life insurance, tend to grow your savings at a faster rate, which might be better depending on your life goals.
Universal life insurance will last for your entire lifetime just like a whole life policy, but the numbers of a universal policy are always in flux.
For starters, you can adjust your premiums as life goes on, which could help you keep up your policy even in the event of a personal emergency or job loss. You may also be able to adjust the death benefit as your needs and circumstances change.
If you decide to pay extra above your premiums, you’ll get interest on that excess which is put into a cash savings account (just like with whole life). But, instead of a locked-in interest rate, a universal policy lets your insurer set and change the rate your savings earn. That’s the tradeoff.
Universal life’s power lies in its flexibility. If you think being committed to a fixed whole life premium for the rest of your life sounds daunting, universal life could be a better fit for you. If the need arises, you can skip a premium payment, adjust the amount due, or move your due date without losing your policy (within limits, of course).
Another perk is that you can adjust the death benefit, which is great as your income grows, and maybe your family too. As you grow older, if you need your policy to provide for a spouse or other dependent upon your passing, increasing the death benefit would be a wise thing, and that’s just not an option with a term or whole life policy.
The biggest downside with universal life insurance is that your insurer gets to determine how much interest your cash savings account earns. There is typically a minimum interest rate, but you’ll need to read the fine print.
You’ll also need to watch your policy’s cash value over time to make sure your policy doesn’t become underfunded. That can happen if you skip payments or adjust your premiums too far, especially if your interest rate is low (meaning your cash account will be growing more slowly). If your policy becomes underfunded, you’ll have to pay large sums to keep it active.
Finally, realize that universal policies generally don’t have a guaranteed death benefit or a guaranteed cash value, which can create uncertainty. But that’s the tradeoff when you need flexibility.
Variable life insurance offers fixed premiums, faster growth potential of your cash savings account, and a guaranteed death benefit. It offers greater cash value accumulation than a whole life policy while overcoming the uncertainty of a universal policy (but foregoing the adjustability of one too).
A variable life insurance policy grows your cash faster because a bulk of the premiums you pay will be put into an investment account owned by the insurance company. Before choosing, you’ll want to consider your risk tolerance and goals. Most insurers have investment managers to oversee their investment accounts, but that comes with a management fee.
The main perk of a variable life insurance policy is the investment factor. Not only do you get to work with your insurer to choose the right investment accounts for your policy’s cash, but that money will grow on a tax-deferred basis. That means you won’t have to pay taxes on your savings until you withdraw at some point in the future and assuming your income will be lower at that point (like during retirement), it means you’ll pay less in taxes.
As your goals and circumstances change, you can move your policy’s cash between investment types based on risk and return. Plus, depending on your policy, you may also have the flexibility to adjust the death benefit if the need arises.
The biggest downside of a variable life insurance policy is its cost, as these plans tend to cost more than other types of life insurance. You’ll also need to be comfortable assuming some risk, as all investments are risky no matter how well-managed they are. That means the death benefit and cash value of your policy can go down as your investments fluctuate.
You should also consider that, in addition to higher premiums, these plans also come with added fees — like for investment management. And, if you decide to give up your policy, surrender charges will apply.
We covered a lot, so let’s recap:
Now that you understand the differences between these primary types of policies, the next best step is to seek out input from a professional financial advisor who can sit down and discuss your unique situation.
Choosing life insurance is highly personal. Your current circumstances, life plans, and long-term goals will ultimately drive you to the right decision and this is a long-term commitment, so don’t skip the details. One day, you’ll be glad you made the responsible choice.
