permanent life insurance

How Does Life Insurance Work?

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If you understand how life insurance works, it will help you decide if you need insurance, how much you need, and the type of plan you want. Without understanding the facts, you can over- or underinsure yourself—or do nothing at all. So how does life insurance work?

How Does Life Insurance Work?

Life insurance works by entering a contract with an insurance company. You will make regular payments (premiums) to the company for a life insurance policy that will pay a tax-free death benefit, or payout, to your beneficiaries if you die.

Do You Need Life Insurance?

Brunette man wearing a pale pink shirt and looking unsure - perhaps about how life insurance works

You might need life insurance to leave enough money to help your spouse, partner, children, or other dependents pay for expenses if you are no longer living.

Some potential expenses include:

  • Debt
  • Education
  • Everyday living expenses
  • Funeral and burial expenses
  • Income replacement
  • Mortgage
  • Out-of-pocket medical care

What are the Types of Life Insurance?

The main types of life insurance are term life insurance and permanent life insurance.

What is term life insurance?

Term life insurance is effective for a specific term, usually in increments of five years. When the period ends, so does the policy. But you may be able to renew it or convert it to a permanent life insurance policy.

Types of term life insurance

  • Level term – Premiums stay the same throughout the term
  • Increasing term – Premiums increase as you age

What is permanent life insurance?

Permanent life insurance does not have an expiration date. But lifelong coverage costs more than term life insurance.

Types of permanent life insurance

  • Whole life – It is valid for your whole, or entire, life and has a cash savings component. Your premium payments insure you for a specific death benefit. Unused cash savings are not included in the death benefit.
  • Universal life – The policy allows you to increase your death benefit, adjust your premiums, and combine cash value with your death benefit to increase the payout.
  • Variable life – You can authorize your insurance company to invest your cash value in an account that the company manages. And you can use the investment earnings toward your premiums or the death benefit.
  • Variable-universal life – You can adjust your premiums within the limits the insurance company specifies. And you can choose how to invest cash accumulation—which may result in gains or losses.

For a comparison of term and permanent life insurance, read our post: Term Life vs. Whole Life Insurance – How to Decide.

How Much Life Insurance Do You Need?

How much insurance you need depends on your survivors’ immediate expenses, long-term expenses, and the financial resources you already have. But many experts recommend that you multiply your annual gross income (before taxes) by 10 to 15. Ten to fifteen times your yearly income will give you an idea of the death benefit you need to care for your dependents.

Read our post, How Much Life Insurance Do I Need?, for details on the expenses to include in your calculation.

Can You Get Life Insurance If You Are Not Healthy?

Up to 50 percent of non-elderly Americans have a chronic illness. If you are one of them, you may wonder how your health will affect your chances of getting life insurance. But chronic illness does not automatically disqualify you from getting the coverage you need. Even a history of serious illness might not disqualify you. But it can increase the cost of your life insurance premiums.

For details on how your health affects your ability to get life insurance, read our post Can I Get Life Insurance Regardless of My Health?

Which Insurance Company Should You Choose?

With so many choices, how do you know which life insurance to choose? Look for a financially stable company with a long history of providing policies and paying death benefit claims. Although scores of high-quality life insurance companies exist, exercising caution always helps.

For easy-to-understand tips on selecting a company and policy that is right for you, read our post, Which Life Insurance Is Best?

Do You Need Help or Have Questions?

You are not alone. According to a Motley Fool article, one reason people say they do not have life insurance is not knowing what kind of policy to get. Hunt Insurance of Raleigh, NC, can help you navigate the decision-making process. Call or text us or complete our contact form to schedule a consultation or get a free, customized quote.

Term Life vs. Whole Life Insurance – How to Decide

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Trying to decide whether to purchase term life or whole life insurance? Although term life insurance is the most common selection, which one is right for you? After you understand the difference, it will be easier to select a policy.

What Is Term Life Insurance?

Term life insurance provides coverage for a specific period or term. Coverage periods are usually offered in increments of five years—usually between ten and 30 years. When the term ends, you can renew the policy, convert to a permanent policy, or let the policy expire.

  • Premiums – Your age, health history, lifestyle, the term length, and the amount of coverage you want will affect your premiums. Term life insurance monthly premiums are less expensive than permanent life insurance premiums.
  • Payout – Your beneficiary is guaranteed a payout if you die during the term of your policy.
  • Cash value – Unlike permanent life insurance, term life doesn’t build cash value.

What term length should you choose?

Consider a policy that provides coverage until your dependent children, if any, have completed college and live on their own. At the end of the term, if you have fewer dependents, you can lower your coverage amount and save money on premiums. Or you can select a term that lasts until you retire if you’re leaving your retirement income to a beneficiary and can reduce your life insurance coverage.

What Is Whole Life Insurance?

Whole life insurance is a type of permanent life insurance. It provides coverage for your entire—or whole—life. Your beneficiary will receive a payout when you die. And the policy includes a use-it-or-lose-it cash savings account that accumulates over the years as you pay premiums.

  • Premiums – Your age, health history, lifestyle, and insurance coverage amount will affect your premiums. Whole life insurance monthly premiums are higher than term life premiums—five to fifteen times higher.
  • Payout – If your premium payments are current, your beneficiary is guaranteed to receive a payout.
  • Cash value – Whole life insurance builds cash value over time. It’s a tax-deferred “living benefit” for you. If you die, your beneficiary will receive the death benefit, but the cash value will return to the insurance company. 

It takes time to weigh the facts and decide which policy is best for you. Our post, Whole Life Insurance Policy – 5 Questions to Ask First, gives details on what you should consider before selecting whole life insurance.

How Much Life Insurance Do You Need?

Think about how much life insurance is needed to replace your income and care for your beneficiary and dependents if you die.

  • Some experts recommend that you purchase life insurance that equals ten to 12 times your annual income.
  • Other experts advise that you multiply your annual income times the number of years left until you retire.
  • If you have a stay-at-home spouse, consider the cost of caring for your children or home if your loved one predeceases you. Get life insurance for your spouse, too.
Infograph to highlight the differences between term and whole life insurance; from Hunt Insurance of Raleigh

Term Life vs. Whole Life – Five Questions to Ask Yourself

Take another look at the differences between term life and whole life insurance. Ask yourself the questions below. Confirm your reasoning with a licensed insurance agent who can help you compare your options, costs, and the long-term effects of the type of insurance you choose.

  1. How many family members will depend on my income for my entire life?
  2. Do I have debt that limits what I can afford to pay for premiums each month?
  3. What is the value of my assets and estate? Am I subject to an estate tax that I can pay with the tax-deferred cash value of a whole life insurance policy?
  4. Will I have enough savings to self-insure at the end of my term life policy, or will I need to renew or convert it?
  5. Do I have valid reasons to pay higher premiums for whole life insurance that builds cash value? Or can I invest elsewhere and get a higher return?

Start the conversation with Hunt Insurance of Raleigh-Durham, NC. Contact us today.