Term life insurance is an important risk-management tool. In exchange for annual premium payments, a term life policy pays out a pre-determined amount if the insured party dies during the policy’s term. Since this type of policy remains in force for a fixed period of time and has no cash value, it costs significantly less than other forms of life insurance.
Term Life vs. Whole Life Insurance
Term life policies differ from whole life plans in several respects. First, whole life insurance, which is also known as “permanent life insurance,” never expires. In other words, a whole life policy is guaranteed to pay out at some point. As such, this type of insurance resembles a managed investment vehicle to which the insured party makes regular contributions over time.
Since a typical whole life policy has an inflation-protected cash value that rises over time, it may be canceled and “cashed out” at any time before the insured party’s death. By contrast, term life policies do not return their accumulated premiums upon cancellation. They pay out a fixed amount, known as the “face value,” in only one circumstance: the death of the insured. In both cases, plan beneficiaries are not required to pay taxes on the death benefits that they receive.
How Much Will a Term Life Policy Cost?
A term life insurance policy’s cost depends in large part upon the length of its term, which can be as short as one year and as long as 30 years. Although the likelihood of a term life policy paying out over a given one-year period is low, many one-year policies offer insured parties the opportunity to renew their benefits for a set number of annual terms.
Annual Renewable Term vs. Level Term Policies
Known as “annual renewable term” or ART insurance, premiums for this form of protection rise slightly each year until the annual term limit has been reached. At this point, the insured party may reapply for coverage. If the insurer agrees to issue a new policy, its annual premiums may rise significantly to reflect the insured party’s increased likelihood of death.
“Level term” policies, which charge a stable premium for a fixed span of time, are more common than ART plans. Level term policies usually remain in force for 10 to 30 years, depending upon the age of the insured party and their willingness to accept higher premiums. Since the likelihood of death increases with age, 30-year policies carry higher annual premiums than 10-year policies. As with ART plans, these rates will spike upon renewal.
Death of the Insured Party
If the insured party dies while their term life policy remains in force, its beneficiaries will receive the plan’s full face value. They may dispose of these funds as they see fit. Common uses for term life insurance benefits include funeral costs, student loans for dependent children, debts incurred during end-of-life care for the insured party, and even everyday household expenses.
Overall Cost-Effectiveness of Term Life Insurance
Many term life insurance policies expire worthless and must be renewed. As such, they cost significantly less than whole life insurance policies, which must pay out sooner or later. Since term life policies that do end up paying out offer their beneficiaries an excellent return on the insured party’s investment, financial planners consider these plans to be more cost-effective than their whole life counterparts. However, potential policyholders should determine whether they can stomach the loss of their premiums if they outlive their policy’s term.