A life insurance policy is a contract with an insurance company. In exchange for premium payments, the insurance company provides a lump-sum payment, known as a death benefit, to beneficiaries upon the insured's death.
- Life insurance is a legally binding contract
- For the contract to be enforceable, the life insurance application must accurately disclose the insured’s past and current health conditions and high-risk activities.
- For a life insurance policy to remain in force, the policyholder must pay a single premium up front or pay regular premiums over time.
- A life insurance policy is only as good as the financial strength of the company that issues it. State guaranty funds may pay claims if the issuer can’t.
What does life insurance cover?
Life insurance will cover most causes of death, whether it’s due to illness, accident, or natural causes. In certain cases, such as suicide within the first two years of holding the policy, a beneficiary murdering the policyholder, or where application fraud was found, the insurer may not cover it and will not pay out the death benefitThe life insurance death benefit is typically given tax-free with no strings attached. That means beneficiaries can use it for any expenses they see fit: paying for day-to-day expenses, saving for college, keeping up with a mortgage, and so on.
How Life Insurance Works
The death benefit or face value is the amount of money the insurance company guarantees to the beneficiaries identified in the policy when the insured dies. The insured might be a parent, and the beneficiaries might be their children, for example. The insured will choose the desired death benefit amount based on the beneficiaries’ estimated future needs. The insurance company will determine whether there is an insurable interest and if the proposed insured qualifies for the coverage based on the company’s underwriting requirements related to age, health, and any hazardous activities in which the proposed insured participates.
Premium are the money the policyholder pays for insurance.The insurer must pay the death benefit when the insured dies if the policyholder pays the premiums as required,and premiums are determined in part by how likely it is that the insurer will have to pay the policy’s death benefit based on the insured’s life expectancy.Factors that influence life expectancy include the insured’s age, gender,medical history,occupational hazards, and high-risk hobbies. Part of the premium also goes toward the insurance company’s operating expenses.Premiums are higher on policies with larger death benefits,individuals who are higher risk, and permanent policies that accumulate cash value.
The cash value of permanent life insurance serves two purposes.It is a savings account that the policyholder can use during the life of the insured; the cash accumulates on a tax-deferred basis.Some policies may have restrictions on withdrawals depending on how the money is to be used. For example,the policyholder might take out a loan against the policy’s cash value and have to pay interest on the loan principal.The policyholder can also use the cash value to pay premiums or purchase additional insurance.The cash value is a living benefit that remains with the insurance company when the insured dies. Any outstanding loans against the cash value will reduce the policy’s death benefit..
Typically, life insurance is chosen based on the needs and goals of the owner. Term life insurance generally provides protection for a set period, while permanent insurance, such as whole and universal life, provides lifetime coverage. It's important to note that death benefits from all types of life insurance are generally income tax-free.
There are many varieties of life insurance. Some of the more common types are discussed below.
Term InsauranceTerm life insurance is designed to provide financial protection for a specific period, such as 10 or 20 years. With traditional term insurance, the premium payment amount stays the same for the coverage period you select. After that period, policies may offer continued coverage, usually at a substantially higher premium payment rate. Term life insurance is generally less expensive than permanent life insurance.
Needs it helps meet: Term life insurance proceeds can be used to replace lost potential income during working years. This can provide a safety net for your beneficiaries and can also help ensure the family's financial goals will still be met goals like paying off a mortgage, keeping a business running, and paying for college.It's important to note that, although term life can be used to replace lost potential income, life insurance benefits are paid at one time in a lump sum, not in regular payments like paychecks.
HOW TERM LIFE INSURANCE WORKS
When you buy a term life insurance policy, the insurance company determines the premiums based on the value of the policy (the payout amount) as well as your age, gender, and health. In some cases, a medical exam may be required. The insurance company may also inquire about your driving record, current medications, smoking status, occupation, hobbies, and family history.
If you die during the term of the policy, the insurer will pay the face value of the policy to your beneficiaries. This cash benefit—which is, in most cases, not taxable—may be used by beneficiaries to settle your healthcare and funeral costs, consumer debt, or mortgage debt among other things. However, if the policy expires before your death, there is no payout. You may be able to renew a term policy at its expiration, but the premiums will be recalculated for your age at the time of renewal. Term life policies have no value other than the guaranteed death benefit.
Whole life InsuranceWhole life insurance is a type of permanent life insurance designed to provide lifetime coverage. Because of the lifetime coverage period, whole life usually has higher premium payments than term life. Policy premium payments are typically fixed, and, unlike term, whole life has a cash value, which functions as a savings component and may accumulate tax-deferred over time.
Needs it helps meet: Whole life can be used as an estate planning tool to help preserve the wealth you plan to transfer to your beneficiaries
Child PlanChild plans are insurance cum investment plans that help an individual create a corpus for children's future, over a period of time (policy term). On maturity, these plans pay a lump sum amount which can be used to pay your child's college fees or marriage expenses.
Why you need a Child Insurance Plan?
It is one of the best ways to save enough with regular investments for your child’s future for needs like higher education which can be costly. Financial protection features in child plans ensure that your child gets the best in the future even in your absence.
Joint Life InsuranceA Joint Life Policy is the insurance cover that you get on a first - death basis. It is a pay out which an insurer receives in case of death of his other insured partner during the period.
Money BackIn a money back plan, the insured person gets a percentage of sum assured at regular intervals, instead of getting the lump sum amount at the end of the term. It is an endowment plan with the benefit of liquidity.
Wealth PlanWealth insurance ensures that you receive a lump sum amount of money at the maturity of the Policy. In the unfortunate event of death during the term of the policy, your family receives lump sum amount, called the Sum Assured. Thus it combines the benefits of protection and saving in a single instrument.
Guaranteed IncomeGuaranteed income plans as the name suggests, offers life insurance at regular guaranteed payouts, along with maturity benefits. The guaranteed regular income is at a pre-defined percentage of sum assured chosen by the policyholder. At the time of buying the policy, the policyholder can decide to receive the income either yearly, half-yearly, quarterly or monthly.
Retirement planRetirement plans are insurance products designed to provide you financial security once your working income stops. With the proceeds of the retirement plans, you can also opt for monthly pension benefits by purchasing annuity plans. They help you invest your earnings over the years and create a fund which you can withdraw as a whole or in parts during your retirement years. Further, with dual benefits of protection with investment, these plans are ideal for covering your financial needs in the golden years of your life.
Critical Care PlanCritical illness health plans are fixed benefit health insurance plans which cover a specified list of critical illnesses. Some common illnesses covered include cancer, stroke, heart attack, major organ transplants, liver failure, lung failure, multiple sclerosis, etc. If the policyholder is diagnosed with any of the covered critical illnesses during the term of the plan, the sum insured is paid in lump sum irrespective of the actual medical costs incurred.
Group Term PlanGroup term life insurance is a type of term insurance in which one contract is issued to cover multiple people. The most common group is a company, where the contract is issued to the employer who then offers coverage as a benefit to employees. Many employers provide, at no cost, a base amount of group coverage as well as the ability to purchase supplemental coverage and coverage for employees' spouses and children. Group term life insurance is relatively inexpensive compared to individual life insurance. As a result, participation is high.