Permanent Life Insurance Tips

In sorting through all the elements of one’s financial life, life insurance is one of the more perplexing topics. The original intention of life insurance is to replace lost income: if the family’s breadwinner were to die suddenly, a life insurance payout would help the family stay soluble despite the loss of the steady paycheck. Thus, a nonworking spouse with no income does not need life insurance. And, after retirement, if company pension payments come with survivor benefits, there’s probably no need to continue paying life insurance premiums. The surviving spouse’s income is ensured regardless.A term life insurance policy is designed to cover this basic need. For as long as the policy is active, the insured makes premium payments on a regular basis in exchange for a predetermined payout in the event of his or her death. To cancel the policy, simply stop making payments (and inform the insurance company); you’ll no longer be covered, and the premium payments you’ve been making to the insurance company over the preceding years — or decades — remain with the insurance company. There’s no reimbursement.”Permanent life insurance” policies are another breed altogether. These policies — “whole life” and “universal life” being the most common varieties — also come with a death payout. However, they additionally hold cash value. With each premium payment, part goes toward paying for the pure death benefit. Part goes toward fees and overhead. And part goes into an investment account that belongs to the insured; this is referred to as the “cash value,” “fund value,” or “cash surrender value.” The cash value component will also accrue a return — a rate of interest — that is credited to the account each year.A whole life policy is fairly straightforward. In most cases, the amount of the premium does not change over the life of the policy. Sometimes, premium payment periods are shortened to twenty years or even less, but in such cases the monthly premiums are much higher — they are squeezed into a shorter span of time. The cash value of a whole life policy can be used as collateral for a loan, and the insured can borrow from the insurance company against the cash value. Any amount that’s borrowed must be paid back with interest. And the cash value, with interest, builds up tax deferred.Universal life is similar but more flexible, in that the insured can shift money between the insurance and cash value components of the policy. With whole life, premium payments are constant, and the parts of each payment that goes toward cash value, insurance, and fees and overhead are not disclosed. With universal life, premium payments are broken down into transparent cash value and insurance components, and the insured can adjust the level of payment as long as there are sufficient funds to cover the insurance and overhead components. For instance, if the cash value is generating a certain level of interest every month, the insured may elect to use this income to pay the insurance component of each premium, thus reducing the amount of external funds required to keep the policy active.One other common variation of permanent life insurance is called “variable life.” These policies are similar to whole life and universal life in that they have a cash value, but the cash value can be kept in a separate account, maintained by the insured, and invested in a range of products available through the insurance company’s portfolio including stocks, bonds, mutual funds, money market funds, and other investment products. The insured assumes all investment risk, and if the cash value plummets because of bad market performance or unwise investment choices, the insured may need to make substantial payments to the insurer in order the keep the policy active.The dollar amount of premium payments for term policies versus permanent life policies varies greatly, given the countless variations in all these policies. But because permanent life policies build up a cash value, whereas with term policies the insured is paying for the insurance component alone, monthly premiums for permanent life can be eight to ten times higher than for term policies.Most financial advisors hesitate to recommend permanent life insurance policies; these policies are complex and not always transparent, the fees are very high, and they are sold through brokers who take commissions. In most cases, it’s wiser to purchase a simple term policy to cover your insurance needs, and invest the earmarked cash value component of your premium money separately in a portfolio of low-fee mutual funds that can provide you with the investment growth you need.

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