For millions of
Americans, life insurance means protection against financial need. Life
insurance can provide support for a family in the event of a father's
or a mother's death, funds to meet the cost of educating children,
and/or added income for retirement years since savings, social security
and employment pensions are not sufficient for most people.
Because there are so many kinds of life insurance policies
with different protections and benefits, terms and conditions, the
subject can seem complicated and confusing to prospective insurance
buyers. The purpose of this booklet is to give you, the consumer, a
basic understanding of life insurance and to provide guidelines for
planning your insurance program. With careful planning and the help of
a qualified professional life insurance representative, you can have
the insurance you need at a cost you can afford.
WHAT IS LIFE INSURANCE?
Life insurance is a legal contract between a buyer and an insurer.
Under the terms of the contract, called the "insurance policy," the
insurer promises to pay a stated sum of money to the beneficiary (the
person named by the buyer) in the event of the buyer's death.
The buyer, in turn, agrees to pay a certain sum of money to
the insurer in the form of periodic payments called "premiums" in order
to have the protection of the insurance.
HOW DOES IT WORK?
A life insurance company receives premium payments from thousands of
policyholders. The company uses this money plus income from
profit-making investments in stocks, bonds, real estate, business
loans, etc., to (1) pay all operating costs each year, (2) meet all
claims filed by policyholders, (3) build surplus funds to meet
year-to-year emergency, and (4) reinvest.
Certain requirements are established by both state regulation
agencies and the insurance industry to protect all parties. For
example, premium amounts are based on the age of the insured. Younger
buyers pay less for life insurance than older buyers and a physical
examination may be required to prove that a buyer is in good health and
is, therefore, a fair risk for the company over a long period of time.
All terms and conditions of an insurance policy are set forth
in the contract and state exactly how much a buyer must pay and for how
long in order to have a stated amount of life insurance protection.
Other clauses in a policy state what a policyholder can do in the event
a premium payment is late, to avoid having a policy cancelled.
Restrictions as to insurance company investments and requirements for
policyholder reserves provide a basic protection.
WHO SHOULD PURCHASE LIFE INSURANCE?
Life insurance can be a wise purchase for just about everyone, whether
single or married. Generally, people buy life insurance for one or more
of the following reasons:
-
To provide financial security for a spouse or children after death;
- To provide money for the future education of children; or
- To provide added income for retirement.
Insurance experts advise prospective buyers to consider their insurance
needs in terms of a long-range insurance program that will include all
present and future needs and possibilities during their lifetime.
Usually, all current and long range needs can be met by
combining two or more types of insurance. Such a policy can cover the
years when the buyer is beginning a work career and establishing a home
and family. Thereafter, the policy can be adjusted to the years when
work earnings are at their highest and when children require financial
help for such things as college or career training. Future adjustments
in the coverage also can provide for the buyer's retirement years when
there are no earned salary wages and retirement income must meet every
financial need.
Whether married or single, an individual also can benefit
during working and retirement years from an insurance policy that
provides a loan value, an income for a dependent parent, or a reserve
against disability or loss of wages.
HOW MUCH INSURANCE DO YOU NEED?
It is not possible to state an amount that could be right for every
individual and family insurance buyer. Circumstances differ widely,
such as ages of family members, reasons for obtaining the insurance,
and family income and other resources. All families must figure out for
themselves what percentage of their incomes they are willing to spend
for insurance.
Bear in mind that in the event of the buyer's death, the
proceeds from the insurance might well have to assist the family over a
long period of time until children are no longer dependent and even
into the retirement years of a surviving spouse.
Remember, personal circumstances can and often do change over
the years and insurance can be purchased for considerably less money
when a wage earner is young and in good health. Regardless of marital
status, insurance can be a very sound beginning toward building
long-range financial security.
HOW MUCH INSURANCE CAN YOU AFFORD?
For every insurance buyer, income at the time of application for a
policy is a major, often deciding, factor in the type and amount of
insurance they buy. For this reason, a professional insurance
representative can provide valuable help by explaining how an insurance
plan can be arranged to provide needed protection at the least cost and
adjusted over the years as income increases.
HOW MUCH INSURANCE DO YOU ALREADY HAVE?
Insurance plans are drawn on the basis of the buyer's total amount of
insurance. Your insurance representative will need to know how much
insurance the buyer, a husband or wife, already has from such sources
as veteran's benefits, employer's insurance plans, unions, service and
professional organizations, or other sources. If you have existing
insurance coverage, you can save time by knowing the terms and
conditions and the amount of each insurance policy before you talk to
an insurance professional.
Usually, employer and other group policies are term insurance:
they do not have a cash value and their protection stops if you leave
the employer or the organization. Many policies do have conversion
clauses so that you may "take over" the insurance if you leave by
purchasing a new individual policy without health evidence at your
attained age. Some organizations do have policies that extend over the
years after you retire (rather than resign) from a company or an
organization. However, your insurance professional will need to know
full details in order to help you build the most effective long-range
insurance plan.
WHERE DO YOU BUY LIFE INSURANCE?
As with any investment, large or small, it pays to do business with a
reputable firm and to check around. Because there are many life
insurance companies that offer proven, long-range service to their
policyholders, there is also a good deal of competition. For this
reason, and to the buyer's advantage, there are often important
differences in policy terms and conditions as well as benefits. It is a
good idea to review the policies offered by more than one company, and
that means you will want to talk with more than one insurance
representative.
TYPES OF LIFE INSURANCE
Professional insurance representatives will counsel prospective buyers
in planning an insurance program and in explaining the wide range of
policies available to meet different individual requirements.
Basically, every insurance program or individual policy is based upon
two kinds of insurance: TERM and WHOLE LIFE. All other types of
insurance offered are variations of these basic kinds. The following
information describes a number of the policies available.
TERM
This type of insurance provides protection over a set number of years
-- usually five or ten year periods. At the end of this "term" the
protection ends. Usually there is no cash value for the premiums paid
over the years. That is, no money is returned to the buyer.
Premiums for a renewed term are higher than the original
payments. However, term insurance usually is the least expensive kind
and many term policies can be converted to whole life policies at any
time during the term of the insurance.
Term insurance can be the most economical way for a wage
earner with limited income to provide adequate protection for a family,
or for a single person to provide for their own death costs and payment
of any debts outstanding at the time of death.
- RENEWABLE TERM insurance can be renewed at the end of
the term, at the option of the policyholder and without evidence of
insurability, for a limited number of successive terms.
For example, a 30-year-old non-smoker buying $50,000
worth of one-year renewable term insurance may pay a premium of $145
the first year, if a man, and $138, if a woman. Women pay less for life
insurance because on average they live several years longer than men.
Here is how the premium in a typical policy would increase:
| | MAN | WOMAN |
| AGE 40 | $190 | $178 |
| AGE 50 | $405 | $328 |
| AGE 60 | $925 | $715 |
CONVERTIBLE TERM insurance can be exchanged, at the option of the
policyholder and without evidence of insurability, for another plan of
insurance.
WHOLE LIFE
Whole life (often referred to as straight life, permanent life or
ordinary life) insurance provides protection for the lifetime of the
buyer and at the buyer's death the amount of the policy will be paid to
a beneficiary (the person named by the policy buyer).
Whole life policies usually offer other options which allow
the buyer to cancel the policy, receive either a cash payment or an
income for life or for a stated, limited time, or convert to reduce
paid-up or extended term insurance. The flexibility and the fact that
premium costs are the lowest for whole life policies make these
policies among the most popular.
Payment of the premiums can be set up in a variety of ways:
-
Annual premiums for as long as the buyer lives;
- Annual premiums for a set number of years or to a certain age; or
- One single payment for the full cost of the policy at the time of purchase.
The payments remain fixed and cannot be raised. In
addition, these policies build cash value after a certain number of
years which the buyer may use for different purposes during the years
of the premium payments.
CASH VALUE USES
"CASH VALUE," an important feature of whole life insurance, is
a sum that increases over the years on a tax deferred basis. For
example, suppose a 30-year-old non-smoker wants to buy $50,000 worth of
coverage. The annual premium for a man might be $765 for a whole life
policy with no dividends, while a woman might pay a $735 premium. This
is how the cash value typically would grow for both men and women:
| AGE 35 | $1,700 |
| AGE 40 | $5,050 |
| AGE 45 | $8,860 |
| AGE 50 | $13,100 |
There are several uses for cash value:
- Using your policy as collateral, you can borrow from the
company up to the amount of the current cash value. However, if the
policy holder dies and the loan has not been repaid, the amount owed
plus interest will be deducted from the death proceeds paid to the
beneficiary.
- With your consent, the insurance company can draw from
the cash value to keep the policy in force in the event that you miss
paying a premium.
- If you no longer wish to pay premiums, the accrued
cash value can be used to fund a paid-up policy that can be continued
as term insurance for a specific period of time.
- The cash value can
be used to purchase an annuity that provides a guaranteed monthly
income for life.
- You can terminate the policy and the insurance
company will pay you the cash value in a lump sum.
WHOLE LIFE -- VARIATIONS, OPTIONS
Whole life insurance may be purchased in a variety of ways, as reported below.
-
MODIFIED LIFE -- Provides protection
for individuals who want whole life insurance but wish to pay lower
premiums in their younger years. The premium is relatively low in the
first several years but increases in the later years.
- LIMITED-PAYMENT WHOLE LIFE
-- Provides protection for the life of the insured, but premiums are
payable over a shorter time period. Consequently, premium rates are
higher than for traditional whole life insurance.
- SINGLE-PREMIUM WHOLE LIFE
-- Provides for the duration of the insured's life, in exchange for the
payment of the total premium in one lump sum at the time the policy is
issued.
- COMBINATION PLANS -- Combine term and
whole life insurance in one contract. Frequently, premiums for
combination plans do not increase as the insured grows older.
UNIVERSAL LIFE
A relatively new form of insurance providing permanent protection,
universal life allows policyholders more flexibility than whole life
insurance. You can pay premiums at any time and in any amount after the
initial payment, provided enough cash value has accumulated. Also, you
can reduce or increase the amount of death protection in the same
policy without buying a new one.
With a universal life insurance policy, the amount of the cash
value reflects the interest earned at prevailing interest rates. Thus,
the amount you accumulate varies according to the general financing
climate. Usually, rates are guaranteed for one year. After that, a new
rate is determined. The rates used can be no lower than a guaranteed
rate specified in the policy - typically four or four-and-one-half
percent.
EXCESS INTEREST WHOLE LIFE
A variation of universal life, this form of insurance has
fixed premiums and fixed death benefits. As in other universal life
policies, its cash value growth depends on market conditions. If market
conditions are favorable and if the premiums paid in the first several
years that the policy is in force are large enough, premiums for one or
more years may be reduced or discontinued.
VARIABLE LIFE
With this type of permanent protection insurance, you can
invest your premium in a separate fund which can be either an equity,
money market or long-term bond fund. The cash value and death benefit
vary in relation to the performance of your investment fund. However,
the death benefit cannot fall below the amount of insurance originally
purchased.
There are two types of variable life policies -- SCHEDULED
PREMIUM VARIABLE LIFE insurance and FLEXIBLE PREMIUM VARIABLE LIFE
insurance. Under a scheduled premium policy, payments are fixed as to
the timing and amount. Policyholders who own a flexible premium policy,
on the other hand, may change the timing or amount, or both, of their
premium payments.
Life insurance agents who sell variable life must be
registered representatives of a broker-dealer licensed by the National
Association of Securities Dealers and registered with the Securities
and Exchange Commission. If you are interested in this type of policy,
be sure your representatives give you a prospectus outlining and
explaining all disclosures about the variable life policy.
ADJUSTABLE LIFE
Another form of permanent protection, adjustable life lets
the policyholder raise or lower the face amount of the policy, increase
or decrease the premium, and lengthen or shorten the protection period.
SPECIAL PURPOSE INSURANCE
You may consider special purpose insurance, such as home mortgage
and/or credit life insurance. For example, a head of a family may
purchase an additional amount of term life insurance to pay off a
mortgage balance in the event of death. For the same reason, credit
life insurance can provide separate insurance funds to pay off a loan
balance on an automobile, a mobile home, a boat or other expensive
property. These term policies serve to protect the long range insurance
program that will be used throughout the buyer's lifetime or that of
his/her beneficiaries. However, remember that such insurance may be
costly, and unnecessary, if you already have sufficient whole life or
term coverage.
MAIL ORDER LIFE INSURANCE
From time to time you may encounter an offer to buy life insurance
through the mail at an attractively low price and, often, without a
physical examination and regardless of age. But be careful! Never
purchase such a policy until you have read and understood every word of
the policy, not just the advertising. Check with the New York State
Department of Insurance to find out if the company is licensed to sell
insurance in your state. If an unlicensed company should refuse to pay
a claim on your policy to which you feel you are entitled, you may have
no recourse to the insurance department of your state if it does not
have supervision over that company.
LIFE INSURANCE, SAVINGS, AND INVESTMENTS
The best way to spend your money depends on what your needs are and the
extent of your resources. Every family should set funds aside for all
three -- insurance, savings, and investments.
In considering life insurance, some people may argue that it
is better to buy the least amount necessary to protect dependents and
to put one's money over the years in such things as stocks and other
investments. The usual reason given for this is that the cash value of
life insurance does not automatically rise to keep pace with inflation,
and for a buyer to increase insurance protection at a later date means
higher premiums. On the other hand, the risks involved due to market
fluctuations, when investing in stocks, must also be considered.
Be sure to consider how much you want to put into insurance and how
much you want to put in other areas of investment, such as stocks,
mutual funds or real estate that might hedge against inflation.
A low-cost term insurance policy may be the best bet for some;
it has no cash value build-up, but offers protection for your family in
case of death. Because term insurance costs are much less than whole
life, you will have more money on hand, money which can be invested in
more extensive term coverage or in apparently safe and sure assets
which will appreciate over the next 20 or 30 years.
Keep in mind, however, that if you follow this "buy term and
invest (or save) the difference" path, you must exercise a degree of
self-discipline and acquire the expertise to systematically and
prudently invest or save. Otherwise, your protection/savings program
might not produce the results you have anticipated.
COMPARING INSURANCE COSTS
Just as important as figuring out how much you can afford to pay in
premiums for life insurance is determining the cost of the policy. That
is, how much insurance are you getting for your premium dollar? The
cost of life insurance can vary greatly among companies, depending on
the type of insurance you buy.
Many states require cost disclosures statements and most
companies provide them even if the state does not require them.
Clearly, comparison shopping for the best value, that is, the most
insurance coverage for your premium dollar, is a wise course to follow.
When comparing the cost of life insurance, you may want to use
a special cost index developed to aid in shopping for life insurance.
The cost index provides you with a number that reflects the price of
the policy. A policy with a smaller index number is generally a better
buy than a comparable policy with a higher index number.
The following rules are important to remember when comparing costs:
-
Cost comparisons can only be made between similar life insurance plans.
- Index
number comparisons should only be made for your age, the type of policy
you intend to buy and the amount of insurance you plan to purchase.
- Small
variations in index numbers might be offset by other policy features or
differences in the quality of service you get from an insurance
company. Your Life Insurance Company or representative can give you
additional information about using a cost index to compare costs.
INSURANCE COMPANIES
Basically, there are two types of insurance companies: the stock
company and the mutual company. The stock company is owned by
stockholders who elect a board to direct the company's management. A
mutual company has no stockholders and is directed by a board elected
by the policyholders.
While both the stock company and a mutual company may issue
participating and nonparticipating policies, the general practice is
that the privately owned stock company issues nonparticipating policies
(no dividend), while the mutual company issues participating policies
(dividend-paying).
CHOOSING AN INSURANCE REPRESENTATIVE
In all states, life insurance representatives must be licensed to sell
policies to consumers. Qualification is based upon a written
examination, and often representatives will have had further training
in various insurance areas such as financial planning.
An insurance representative may receive extensive training
through the company he or she represents or The National Association of
Life Underwriters. Additionally, the agent may have received a
certificate as a Chartered Life Underwriter (CLU) from the American
College of Life Underwriters after completing a college level course of
study.
You, as the policy buyer, must be assured that the agent you
select has the knowledge and experience to advise you. Equally
important, you must be assured that the agent will provide the time and
service to advise and assist you in the future.
Qualified, reputable insurance representatives are professionals in
their field, and you should choose one as you would a doctor or lawyer.
Talk with more than one representative and be sure you have confidence
in the person you eventually select. Planning and adjusting an
insurance program in later years requires guidance by a competent
insurance representative.
REPLACING OR TRADING IN POLICIES
Attractive offers may come your way that offer to replace your existing
life insurance policy with one from another company. Often, if you have
a whole life policy, its cash value may cover more than the initial
premium for the replacement policy. The new policy may have some
advantages over your existing one; it may replace your whole life
policy with a term policy having a greater death benefit coupled with
an income producing policy. Whether or not it is advisable to replace
or turn in your existing policy depends on a number of factors that you
must determine yourself, according to your own situation.
Whatever you do, do not be rushed into signing up with the new
company before you thoroughly compare the advantages and disadvantages
of changing policies. Check with your present insurer and even other
companies to compare costs and benefits that you might obtain or
already have. Among things to consider when thinking of replacing your
insurance are: the cash value of your present policy, premium size,
loan value, insurance cost and limits on denial of coverage. Never
cancel a policy until there is a new one in force.
TIPS TO REMEMBER
- Always
read your insurance contract carefully and, if necessary, ask your
agent for a point-by-point explanation of the language.
- Remember
that your insurance contract is a legal document. Therefore, you should
familiarize yourself with the promises bound by that contract.
- You can contact your state insurance commissioner's office if you have questions about an insurance company or its policies.
- After
purchasing new life insurance, you have a 10-day "free look" which
entitles you to change your mind. If you do so, the company will return
your premium without a penalty.
- It is wise to give photocopies of your policy to your beneficiaries and your lawyer.
- Keep your policy, the name of the company and policy number in a secure place, such as a safety deposit box.
FOR FURTHER INFORMATION, CONTACT:
American Council of Life Insurance
1001 Pennsylvania Avenue. N.W.,
Washington, D.C. 20004-2599
Phone: 202-624-2000
Consumer Federation of America’s Insurance Group
414 A Street, S.E.
Washington, D.C. 20003
Phone: 202-547-6426
National Insurance Consumer Help Line
Phone: 800-942-4242
New York Department of Insurance
25 Beaver Street
New York, NY 10004-2319
(212) 480-6400
(800) 342-3736
