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Life insurance is an important part of planning for your future. It may seem daunting or overwhelming when you first think about it, but setting up a life insurance policy is an excellent way to take care of your family when you are no longer here.
In fact, did you know you can use your insurance policy for cash value? Let’s learn not only about the different types of life insurance but how you can make them work for your and your future.
What is life insurance?
Life insurance policies differ based on your needs and where you live. In its simplest terms, life insurance is a policy or agreement between a person and their insurance company dictating where their money goes post-mortem.
This agreement essentially says that you will pay into a policy over the course of your lifetime. When you pass away, your insurance company will pass your money and benefits on to your dependents or beneficiaries as stated in your will. In the event that you don’t have any dependents or beneficiaries, your insurance policy money will be used to pay for things like funeral costs and repaying any outstanding debt.
How does life insurance work?
Life insurance works similarly to all other insurance options. You pay into a premium, and once a claim is made, you’ll receive a payout. The difference between life insurance and other forms of insurance is that the payout is given after you, the policyholder, pass away.
Instead of insuring your own life, life insurance policies exist to provide financial support to your family when you die. The beneficiaries of your life insurance plan will need to file a claim before they can receive a payout, and the waiting period is based on the terms of the policy. Not all insurance policies are alike.
Why is life insurance important?
It is easy to support your loved ones while you’re alive, but what will happen to them when you’re gone? A life insurance policy helps you set your family up for financial support in the aftermath of your death.
Setting up a life insurance plan is a fast-moving process that can provide peace of mind to your loved ones. With life insurance, you will be able to pay for costs associated with your name even when you’re no longer here. This takes a lot of weight off your family members’ shoulders because they won’t have to burden the financial costs of your outstanding fiscal responsibilities.
Types of life insurance
There are several types of life insurance policies that you can purchase, the most popular of which being term insurance and whole life insurance. Both forms of life insurance come with their own set of advantages and disadvantages.
Term life insurance
Term life insurance is one of the most common types of life insurance. Many people even consider term life insurance the simplest form because it only pays if death occurs during the term of the policy.
Term life policies have a length typically between one to thirty years. There are two types of term life insurance policies: level term and decreasing term.
- Level term life insurance: Level term means that the death benefits remain the same throughout the policy.
2. Decreasing term life insurance: The decreasing term refers to a policy in which the death benefits usually decrease incrementally over the course of the policy.
Advantages of term life insurance
An advantage of term life insurance is that it’s the most budget-friendly option for life insurance. This type of life insurance is best for those of you who are not able to pay a higher premium but are still ready to start putting money into a policy. Another advantage is that term life insurance can be renewed or converted to a different form of life insurance once you are able to afford more expensive—and therefore more beneficial—insurance policies..
Disadvantages of term life insurance
The disadvantage of term life insurance policies is that they typically do not provide cash value as a death benefit. They also only provide coverage for a limited period of time. Also if you outlive your term life insurance policy, you won’t get any of your money back once the policy expires. Instead, all of the money that you poured into your policy over the years will stay with the insurance company.
Whole life insurance
Whole life insurance is the most common form of permanent life insurance. Permanent life insurance means that the insured person will be covered for the entire duration of their life as long as the premiums are paid.
It’s sometimes called guaranteed whole life insurance because the policy price remains the same over the life of the policy, and you are guaranteed coverage for your whole life as long as you pay the premiums. Whole life insurance also provides the opportunity to invest because you can turn your policy into cash assets.
It can be viewed as an investment or a way to start saving for the future. Whole life insurance pays the beneficiary a tax-free death benefit. This is tax-free as long as you are below the federal and local estate exemption levels. Be sure to check that your state does not impose estate or inheritance taxes.
Advantages of whole life insurance
The advantages of whole life insurance are that you are able to withdraw funds, your premiums are fixed, and cash value accumulates. As long as you make the required premium payments, your death benefits are guaranteed.
Disadvantages of whole life insurance
There are some disadvantages of whole life insurance that are important to consider. Whole life insurance can be hard to understand. It is recommended that you ask a lot of questions and seek clarification on anything you don’t understand.
Even though cash value is an advantage of whole life insurance policies, the main disadvantage is that the interest rate could be much lower than the interest rates of other investment options. It is possible that if you’re looking at a whole life plan for creating and growing a family financial management plan, there might be better, more lucrative options than a whole life insurance policy.
A whole life insurance plan might not be the best option if you are just starting to invest in your retirement. It is more ideal for people who want to diversify their portfolios.
Keep in mind that whole life insurance tends to be expensive because it offers cash value that can be used as a loan. If this is not something that is important to you, it’s possible another form of life insurance might be better for you.
Universal life insurance
Universal life insurance offers lifelong coverage. It also offers flexibility when paying premiums and different choices on how to invest the policy’s cash value.
You’ll have the option of variable or indexed universal life insurance depending on how you want to invest in the policy. This policy can grow exponentially according to how you manage the portfolio.
There are some similarities in both whole life insurance and universal life insurance even though the two policies might sound familiar. The cash value for a universal life insurance policy can be used as loan collateral. This means that you can borrow money from your insurance company and use the value of your plan as collateral.
Be sure to check the interest rate on the loan. Your interest rate is a value set by the insurance company. The policy also has what is called a surrender value, which explains what happens if you decide that you no longer want the policy. You’ll have the option to surrender or return your policy to the insurance company, and they will give you cash in return.
Finally, you can use the cash value of your policy to pay either a portion of the payment or the entire premium payment. The policyholder will decide how much you pay. This means that you can pay the maximum premium amount in the beginning to build up your cash value.
Advantages of universal life insurance
Having cash value is one of the advantages of a universal life insurance plan. Depending on the overall market value, your cash value can increase rapidly. Another advantage of universal life insurance plans is that they come with lifelong coverage.
As long as you pay your premiums, you have coverage. There is no expiration date. Also, there aren’t any additional health assessments needed. Once you have coverage, you’ll remain covered, even if your health condition changes.
Disadvantages of universal life insurance
A disadvantage of universal life insurance is the unpredictable variable interest rates. These rates determine the cash value of your policy. Another disadvantage has to do with the importance of keeping your policy active.
If there is a lapse in your policy, you run the risk of losing your entire cash value. This requires diligence but it also doesn’t account for the possibility that you might not be able to pay your premium.
Indexed universal life insurance
An indexed universal life insurance policy puts a portion of the policyholders’ premium payments toward annual renewable term insurance, and the remainder is added to the cash value of the policy.
This type of insurance policy provides coverage as long as the premiums are paid. Indexed universal life insurance policies also offer flexibility and tax-free gains. Indexed universal life insurance includes a death benefit that is paid out at the policyholder’s demise.
Advantages of indexed universal life insurance
One major advantage of an indexed universal policy is the high return potential. You can gain upside exposure with your policy without the risk of losing. This policy also offers a lot of flexibility.
You can determine how much risk you want to take in the market, change the amount of death benefits, and adjust the policy to better suit your needs. There aren’t any impacts of Social Security benefits when taking advantage of the case value of this policy, too.
This means that you can take a loan against your policy and not worry that it will impact your Social Security benefits. Of course, there are some disadvantages that you should consider as well.
Disadvantage of indexed universal life insurance
One of these disadvantages has to do with the fees. There can be a lot of fees associated with an indexed universal policy.
There is also a cap set on returns. This can limit the actual amount that is credited to your account. It is important to be aware of these caps if you are looking to use your policy to invest.
An indexed universal life insurance policy can meet the needs of not only an insurance policy but it can also assist with financial investments. It is important to take your time with this policy because it can be very complex. If you are not ready to take the time to understand the ins and outs of this type of policy, it might not be the best for you.
Variable life insurance
Variable life insurance is a permanent form of life insurance. It is made up of separate accounts comprising various instruments and investment funds. This setup makes variable life insurance policies very risky investments. Due to the risks associated with variable life insurance policies, they are regulated under federal security laws.
Advantages of variable life insurance
Variable life insurance policies have specific tax benefits, which are very advantageous. One tax benefit of variable life insurance policies is that your policy can be used as a tax-free loan as long as you keep your policy active.
Another advantage is that the premiums are not fixed. You can adjust your premium payments to meet your needs and goals, all within reason. There is also higher investment earning potential on this policy.
Disadvantages of variable life insurance
These policies tend to be expensive compared to other policies. This can be viewed as one of the disadvantages of this policy especially for people on a budget. The fees can add up quickly, and you may need to increase the frequency of your payments to keep the policy active.
Another notable disadvantage is that someone who is considered “unfavorable” or of compromised health may not qualify for some of the coverage of variable life insurance policies. Or if you are considered despite these qualities, you might have to deal with higher premiums. Be mindful of this when considering a variable life insurance policy, but know that there are other policy options for you as well.
If you want cash value, you’re okay with some investment risks, and have the time to understand the complexities of this plan, variable life insurance could be something you want to consider. This insurance policy can be great for investing and future planning, but it can come with very expensive costs.
Variable universal life insurance
Variable universal life insurance is a policy that has built-in savings components. This savings component allows for the policyholder to invest using the policy for cash value. The policy has sub-accounts which can be like mutual funds.
This type of account allows for great returns with some risks associated, too. There is a cap and a floor on the returns that you can receive from this plan. Each year, the policyholder will deduct what is needed to cover costs like administrative fees and the death benefit for the beneficiaries of the policy.
The remaining amount is left in a separate account that earns interest. The separate account—or subaccount—has various stocks, bond accounts, and money market account options.
Advantages of variable universal life insurance
A variable universal life insurance policy is a great way to make investments. They have a higher upside potential than other policies. There is also a tax-fee benefit for your beneficiaries.
This benefit is particular to someone who is already relatively wealthy with assets below a set dollar amount. Another key benefit of a variable universal policy is the cost. In some cases, this policy can be cheaper than other permanent policies because the cash value can become very high.
Disadvantages of variable universal life insurance
Similar to other permanent policies, there are a lot of fees involved in a variable universal life insurance policy. Some would consider this a disadvantage. Another disadvantage is the baseline cost of the insurance policy. A variable universal policy might be cheaper than a whole life policy, but it is still expensive. This type of policy can also be hard to understand.
If you choose to invest in a variable universal policy, make sure you have the time to understand the ins and outs, especially how the cash value benefit works. It can be a more complex investment that requires further research than other types of investment.
A variable universal policy could be a great match for someone who is already relatively wealthy, has time to learn about the complexities of this policy, and would like to use it for investing.
Which type of life insurance is best for you?
There are a few key factors to consider when choosing a policy. The most important factor to consider is the cost of the insurance policy. How much can you afford to spend on an insurance policy? Be sure to inquire about fees associated with the policy you choose.
Another factor is the duration of the policy. Figure out what term you prefer and decide which policy fits best.
Finally, what benefits are important to you? Do you want to invest and use your policy to plan for the future? If these benefits are important to you, consider a policy that will help you build your portfolio and provide you with the best cash value.
Not all life insurance is created equal!
Is life insurance important? Absolutely! Is it complex? It can be!
But knowing what you want and need from a policy can help steer you in the right direction. There are other ways to build financial security and set your family up for the future, too. You can get the help you need by building a strong financial portfolio.
The key is having knowledgeable support at your fingertips. From budgeting to investment accounts, MoneyLion can be the support you need to make the right decisions about your financial future!