Insurance companies generally offer several types of life insurance policies. Choosing the right type of policy and the best level of coverage for your situation isn’t always simple. Understanding the different types of life insurance policies and how they work can help you decide which one is best for your needs.
Let’s start with the two most popular types of life insurance: term life and permanent life. Term life insurance covers you for a fixed amount of time, while permanent life insurance covers you until the end of your life. Now here’s a closer look.
How Does Term Life Insurance Work?
Term life insurance provides the most straightforward coverage. It’s active for a set period, usually 10 to 30 years, and pays out a death benefit to your beneficiaries if you die while the policy is still active. You choose the term when you take out the policy. That’s it — nothing more, just simple financial protection for the people you care about.
Term is also typically the most affordable type of life insurance since the premium payments stay the same for the duration of the policy. In addition to being the most affordable, term life insurance is the most popular type of life insurance sold because it offers large payouts at a low cost.
How Does Permanent Life Insurance Work?
Permanent life insurance provides coverage for your entire life unless the policyholder stops paying the premiums or gives up the policy. It’s typically more expensive than term life insurance because it can last for the duration of your life and usually builds cash value as the policy ages.
A portion of the premium payments you make is added to a cash account, which can earn interest or be invested, depending on the type of policy you hold. You can then use the cash value of your life insurance while you’re still alive. You can borrow from it, make withdrawals, or just use the interest payments accrued to cover the premium later in life.
You can even surrender the policy, trading your death benefit for the value currently in the account, minus some fees. These options can create complicated tax issues, so it’s a good idea to talk to a financial advisor before utilizing your cash value.
There are also a couple of different types of permanent life insurance.
- How Does Whole Life Insurance Work? Whole life insurance is a type of permanent life insurance that has a guaranteed premium and a cash value that accumulates over time.
- How Does Universal Life Insurance Work? Universal life insurance also has a cash value component that earns interest and features flexible premiums. Unlike term and whole life insurance, the premiums can be adjusted over time.