Term life insurance is probably the most commonly purchased type of life insurance, and for good reason. It provides decent coverage, is the most affordable for families on a budget, and doesn’t require any serious commitment. But how does it work exactly? And how do you know if it’s right for you?
- How Does Term Life Insurance Work?
- Types of Term Life Insurance
- Level Premium
- Annual Renewable Term
- Guaranteed/Simplified Issue
- Return of Premium
- Final Expense
- Who Would Benefit From Term Life Insurance?
- Pros and Cons of Term Life Insurance
- Buying a Term Life Insurance Policy
- Term Life Insurance versus Whole Life Insurance
How Does Term Life Insurance Work?
Overall, term life insurance is the most straightforward type of coverage:
- You’ll choose a “term” (usually somewhere between 10-30 years) that works best for you and your family.
- Depending on the policy, you’ll pay a monthly or annual premium for the duration of that term.
Should you pass away during the term, your beneficiary receives a guaranteed death benefit (i.e. money), ideally to help with temporary financial needs such as:
- Short-term supplement of loss of income.
- Medical bills and funeral expenses.
- Paying off a mortgage, vehicle loan, or other major debt.
- Education costs.
- Assistance raising children.
Otherwise, coverage ends when the term is up. You can renew or purchase a new term policy (typically premiums are more expensive), or look into converting to a whole life insurance policy.
Types of Term Life Insurance
There are several types of term life insurance. Your life insurance agent can help you decide which type is best for you and your family, but let’s go over the basics for now:
Level Premium: You pay the same premium for the duration of the policy (i.e. the “term”) and the insurer provides the same payout to your beneficiary, regardless of when during the term you pass away. Often, you can renew your policy without having another medical exam but your premiums will increase, likely annually, after the original term is up.
Annual Renewable Term: You have insurance for one year and can renew it annually for a specified number of years (again, the “term”). Generally, premiums increase each year based on factors like your age, health, and lifestyle (a nicer way of saying “how likely it is you’ll die within the next year”).
Guaranteed/Simplified Issue: Geared toward people who have an illness or “troubled” medical history. You can get coverage with no medical exam; you just have to answer a few questions. However, these kinds of policies come with higher premiums because the insurance company is taking a risk insuring someone without knowing, for sure, his or her medical conditions. Also, they typically only pay part of the death benefit if you die within the first few years of having the policy.
Return of Premium: With this kind of policy, you get term life insurance coverage as usual, but you also get your premiums back (if you’re still alive) at the end of the term. As you can imagine, these kinds of term life insurance policies can be expensive so it pays to shop around for the most affordable premium.
Final Expense: Consider this the “quick and dirty” version of term life insurance. You only answer a few questions for a small policy, ideally to pay for final expenses such as your funeral. Because you (usually) can’t be turned down for a final expense policy, the premiums are (usually) on the more expensive end.
Who Would Benefit From Term Life Insurance?
Term life insurance policies mostly benefit:
- Married couples who want to make sure one spouse receives some financial assistance if the other spouse passes away.
- New parents who want to make sure their children are taken care of in the event one or both of them die.
- Someone who’s on a budget but still wants a respectable amount of coverage for the most affordable premiums.
- People who aren’t interested in lifelong coverage; they only need coverage for a specific amount of time.
- People who aren’t interested in life insurance as an investment, an inheritance, or for estate planning.
Pros and Cons of Term Life Insurance
- More affordable premiums.
- Offers a variety of types (see above).
- Cancel the policy without losing value.
- Premiums usually increase upon renewal.
- Doesn’t accumulate cash value; no investment option.
- Only ideal for temporary financial needs; not retirement, estate planning, or inheritance.
Buying a Term Life Insurance Policy
As you’re shopping for a term life insurance policy, remember:
- Just like home, health, and auto insurance premiums, life insurance premiums can vary widely among different insurers. Take some time to shop around and compare quotes from several providers.
- Provide truthful answers. Not only do accurate answers help make sure you get the best coverage and premiums for you, but also answering falsely is insurance fraud — a serious crime.
- Read the fine print. Your insurance policy is a legal document. Make sure you understand everything required of you and your insurer before you sign the dotted line.
Also keep in mind that many term life insurance policies can be converted to whole life policies later on, so if this interests you be sure to look for providers that offer the option.
Learn more about determining how much coverage you need, who to name as your beneficiary, how companies price policies, and more at How to Buy a Life Insurance Policy.
Term Life Insurance versus Whole Life Insurance
The two main kinds of life insurance are term life insurance and whole life insurance. While term life policies offer many perks for a particular demographic of customers — typically, those who want lower premiums and who don’t care for permanent policies — whole life policies step it up a couple notches with:
- More stable premiums.
- Lifelong coverage.
- Accumulated cash value.
Learn more about whole life policies and whether one might be right for you.
Overall, term life insurance policies are ideal for people who want a decent amount of coverage for a specific period of time but need to stick to a budget. Term life insurance can offer short-term financial assistance for spouses and children (think: mortgage and utility bills, childcare costs, and higher education). Should their needs change, policyholders can usually convert their term life policy into a whole life policy, or cancel altogether without losing any investment.