The Intricacies Of Life Insurance Product Creation

Life insurance is a contract between an insurance company and a policy owner, where the insurer promises to pay a sum of money to a beneficiary upon the death of the insured person. The policyholder typically pays a premium, either regularly or as a lump sum, and in return, the insurance company provides a financial safety net for the policyholder's loved ones. The two main types of life insurance are term life insurance and permanent life insurance, with the former offering coverage for a specified term and the latter providing coverage for the insured's lifetime. Permanent life insurance often includes a cash value component, allowing policyholders or their heirs to access the accumulated cash under certain conditions.

Term life insurance

The insurance company calculates the premium based on the policy's value (the payout amount) and factors such as age, gender, and health. A medical exam may be required, and the insurance company may also inquire about driving records, current medications, smoking status, occupation, hobbies, and family history.

Most term life insurance policies expire without paying a death benefit, lowering the insurer's overall risk compared to a permanent life policy. The reduced risk is one factor that allows insurers to charge lower premiums. Interest rates, the financial health of the insurance company, and state regulations can also affect premiums.

There are several types of term life insurance policies available. Many policies offer level premiums for the duration of the policy, such as 10, 20, or 30 years. These are often referred to as "level term" policies. A premium is a specific cost, typically monthly, that insurance companies charge policyholders to provide the benefits that come with the insurance policy.

Many term policies are also "convertible", which means they can be converted into a permanent life insurance policy, such as universal or whole life, within a certain number of years after the policy was taken out. If you convert term life insurance to permanent life insurance, the premium will increase.

Permanent life insurance

The two primary types of permanent life insurance are whole life and universal life. Whole life insurance has a fixed and guaranteed premium, rate of return, and death benefit. The cash value of whole life insurance grows at a guaranteed rate. Universal life insurance has more flexible premium options and its earnings are based on market interest rates.

There are several reasons why someone might choose permanent life insurance over term life insurance. For example, permanent life insurance is a good option for those who want to ensure there is a death benefit payout for their loved ones no matter when they die, or for those who want to build cash value in a life insurance policy. It is also a good option for those who want lifelong coverage because they have people financially dependent on them.

Whole life insurance

The cash value of a whole life policy usually earns a fixed rate of interest, which is determined by the insurer and tends to be between 1% and 3.5%. This sets whole life insurance apart from other permanent policies, which don't guarantee returns. The policyholder can access the cash value once it has grown sufficiently large, either by withdrawing funds or taking out a loan. When the insured person dies, their beneficiaries will receive a payout that is typically not subject to income tax.

Universal life insurance

Like all permanent life insurance, a universal life insurance policy can accumulate cash value in something like a savings account. The cash value earns interest based on the current market or the policy's minimum interest rate, whichever is greater. Policyholders may take out a portion of the cash value in the form of partial withdrawals or loans. Universal life policyholders may borrow against the accumulated cash value without tax implications, although interest will be charged on the loan amount and any unpaid amounts may be taken from the death benefit.

There are some risks associated with universal life insurance. While the ability to lower your premiums and make withdrawals in times of need makes universal life a flexible insurance type, you have to watch your account carefully. If your cash value falls to zero and your premiums don't cover the cost of insurance, your policy may lapse. In addition, returns are not guaranteed. If interest rates drop, your cash value may not perform well. Unlike whole life, universal life cash value does not earn a guaranteed rate, although most UL policies come with a minimum rate so that your losses are limited.

Some withdrawals from universal life insurance policies are also taxable. When UL policyholders withdraw some of the cash value, it will be taxed. In general, life insurance is taxed on a first in, first out (FIFO) method, meaning that the policy owner will receive their investment in the contract first before receiving any gains in the policy (or being taxed on those gains). However, if you withdraw more than you've paid into the policy, your withdrawals will be taxed.

Finally, when a universal life insurance policyholder dies, the insurance company keeps the account's cash value. The beneficiaries will be paid just the death benefit, as the policyholder can only use the cash value while they are alive. However, some life insurance policies allow you to increase the death benefit as you build the cash value.

Variable life insurance

• An index fund, such as the S&P 500
• A portfolio of equities, such as an emerging markets fund

The insurer may also offer a fixed-interest investment option, which has less risk but also less potential reward. The policyholder can allocate a portion of their premium to a fixed account, which guarantees a rate of return, to reduce overall risk.

Frequently asked questions