Today’s excerpt is from Financing Your Life. It’s taken from Chapter 19: Life Insurance.
Life insurance is one of the most critical purchases you can make when financing your life. While you may think that the purchase of a life insurance policy is more about financing your legacy than your life, it’s actually much more useful during the course of your life than you might think.
Life Insurance Basics
On the most basic level, life insurance provides a death benefit to beneficiaries after the death of the insured. But life insurance has more layers and more benefit possibilities than just that. In order to understand the various benefits your policy can create, you must understand the two basic categories life insurance policies can fall into.
- Whole, or permanent, insurance (including index universal life): A policy that, once approved by underwriting, provides coverage for the entire life of the insured (as long as premiums are paid on time) is called whole life, or permanent life, insurance. Another feature of these policies is that they can accumulate an additional pool of funds called cash values. This cash value can be tapped into for tax-free loans or can be paid out in full to the insured when they cancel, or surrender, their policy. When a policy is surrendered, the cash value may be subject to charges by the insurance company and the amount that exceeds premiums paid in can be taxable. Loans taken from permanent insurance policies can reduce the death benefit if they are not repaid by the date of death of the insured.
- Term insurance policies: These are policies that guarantee a death benefit should the insured pass away within a predetermined time frame, as long as premiums are paid on time. Term insurance policies are generally less expensive than permanent insurance policies because they do not accumulate cash values—meaning their premiums are for the cost of insurance only. Additionally, because the insurance company’s risk is limited to a set number of years, they are less expensive.