Life Insurance Assignments: Conversion Complications And Solutions

Life insurance is a crucial financial safety net for many, and it's essential to understand the intricacies of your policy. One such detail is the option to convert a term life insurance policy to a permanent one. This process allows individuals to switch from temporary coverage to lifelong protection, ensuring their loved ones are financially secure even after their passing. However, it's important to note that not all term life insurance policies offer this conversion privilege, and there are specific steps, pros, and cons to consider before making the switch. Understanding these factors is key to making informed decisions about your financial future and ensuring your insurance needs are met.

Conversion clause

A conversion clause is a section of a life insurance contract that allows policyholders to convert their term life insurance policy to a permanent form of life insurance. This allows a policyholder to transform their temporary term insurance into permanent life insurance without having to re-qualify or undergo medical examinations.

The conversion privilege provision allows an employee that participates in a group plan to convert their group life insurance policy into an individual life insurance policy with little hassle, without having to go through another approval process or a medical exam. The life insurance company will extend coverage based on the fact that they were already approved as part of the group life insurance plan.

In some situations, an individual can continue to receive a group discount even though they are no longer part of the group. To qualify for this provision, the insured needs to notify the life insurance company within 31 days of termination of employment with the group policyholder.

The conversion privilege will likely have an expiration date, meaning the policyholder has until then to convert to a permanent policy. The premium can be increased based on their age at conversion.

Partial conversion

A partial term conversion is when you only convert a portion of your term life insurance policy to whole life insurance. This results in a smaller death benefit than the original policy, with correspondingly lower premiums.

If you choose a partial conversion, you will be left with two separate policies: the remainder of your term policy and your new permanent policy. The premium on the remaining term policy will drop since the face amount has decreased.

For example, a healthy 30-year-old man purchases a $500,000 25-year term life insurance policy for $25 per month. At age 50, he decides to convert $100,000 to a whole life insurance policy. The cost of his new whole life policy is $118 per month. His current term policy has five years left, and the face amount drops to $400,000, which lowers his monthly premium from $25 to $22. He now owns two life insurance policies: a $400,000 term life insurance policy with five years of coverage left and a $100,000 whole life insurance policy. For the next five years, his total cost of life insurance is $140 per month. When the term policy expires, his monthly premium is reduced to $118.

Pros and cons

Pros of Converting Term Life Insurance to Whole Life Insurance

• Permanent coverage: Whole life insurance provides coverage for the entirety of the policyholder's life, whereas term life insurance is designed to provide coverage for a limited period. Whole life insurance thus guarantees a death benefit for beneficiaries as long as the policy remains active.
• No medical exam required: Converting a term life insurance policy to a whole life insurance policy does not require the policyholder to undergo a medical examination. This is especially beneficial for those whose health has deteriorated and who would otherwise be denied coverage or face higher premiums based on changes in their health.
• Accumulation of cash value: Whole life insurance policies allow policyholders to accumulate cash value, which can be used to meet retirement goals and other long-term financial objectives.
• Flexibility: Convertible term policies offer flexibility by providing the option to convert to a permanent policy later in life if needed.
• Estate planning: Permanent life insurance can help with estate planning, particularly for those with a large estate who wish to minimise their taxable estate.

Cons of Converting Term Life Insurance to Whole Life Insurance

• Higher premiums: Whole life insurance policies typically have much higher premiums than term life insurance policies with the same death benefit.
• Limited policy options: Not all term life insurance policies can be converted to whole life insurance policies, and the permanent policies available for conversion may be limited depending on the insurance company.
• Must convert within a specific period: Term life insurance policies typically have a conversion deadline, after which conversion is no longer possible.
• Healthy individuals may find better options elsewhere: Healthy individuals may be able to take advantage of competitive insurance rates by applying for a new policy instead of converting their existing term life insurance policy.

Timing

The timing of your conversion depends on your insurer and your policy. If your policy can be converted, you should be notified of your eligibility and what is needed to complete the process. To convert life insurance from term to whole, you must act within this period. You likely won't be able to decide to convert on the last day of your term. Most policies have a period between 30 and 90 days prior to the end of the term that allows for the conversion option to be exercised, but it could be up to a year or more in advance of your term ending. If you know you want to convert term to whole life insurance, you should talk to your agent as soon as you decide to see what the process is.

The timing of your conversion is important for another reason: cost. The older you are, the higher your premium will be. The premium on your new permanent policy will be determined by at least some elements of the rate class you were placed in when you originally secured your term policy. So, if you decide to convert a term policy when you're older, you'll likely get lower premiums than you would if you were purchasing a new whole life policy.

The conversion period on a term policy might be limited to the first few years the policy is in force. For example, the conversion period on a 20-year term policy might be restricted to the first 10 years the policy is active. If you know the deadline, be sure to make the conversion before the period expires.

The conversion privileges in term policies don't always last throughout the life of the policy. So, depending on the timing of a terminal diagnosis, for example, this may not always be an option.

Cost

The cost of converting a term life insurance policy to a permanent one depends on several factors. While there are usually no fees to convert, the premium payments will increase.

The premium is influenced by the age of the policyholder when they convert—the older they are, the higher the premium will be. The amount of coverage also matters; converting the full value of a term policy will result in a higher premium than converting only a portion of it.

The timing of the conversion might also affect the rate. For example, some insurance companies offer term life policyholders a credit for the amount they've paid towards their policy that can be applied to the cost of a permanent policy if they convert within the first few years of purchasing the policy.

The type of permanent policy chosen will also impact the premium. For instance, the premium for a whole life insurance policy will be higher than that of a universal life insurance policy.

Examples

• A healthy 30-year-old male purchased a $500,000 25-year term life insurance policy for $25 per month. At age 50, he decides to convert $100,000 to a whole life insurance policy. The cost of his new whole life policy is $118 per month.
• A 30-year-old male nonsmoker in excellent health has a 30-year term life insurance policy with a $500,000 death benefit and a preferred plus rate of $368.20. If he were to convert to a guaranteed universal life insurance policy at age 40, the premium would be $4,580 (preferred plus rate).
• A 70-year-old female in good health with a Preferred Plus risk class wants to convert a $3,000,000 term life insurance policy to a permanent one. The monthly premium for a participating whole life insurance policy with fixed payments until age 100 would be approximately $16,732. An indexed universal life insurance policy with initial planned premiums would cost about $10,331 per month, while a guaranteed universal life insurance policy with fixed payments would be around $8,280 per month.

Frequently asked questions