Term Insurance Comparisons

Term life insurance does not build any equity, or cash value, associated with the policy. A term life insurance policy provides basic death benefit protection in exchange for premium payments. The premiums paid on the life insurance policy go directly to support the death benefit. But, there are two ways that term life insurance may be structured to provide death benefits. You should understand how these policy types compare.

Annual Renewable Term Life

Annual renewable term life insurance provides a one-year guaranteed death benefit in exchange for a premium. The premium represents the cost associated with supporting the death benefit for that year. The premium may be divided up into 12 payments, four payments or paid annually. Each year, the premiums increase on the death benefit you purchase. You may renew the policy up to age 85 without any additional health exam or other underwriting.

Level Term Life

Level term life insurance inflates the premium over the pure cost of insurance and invests the excess premium. This process is called "level term funding." The excess premium amount is invested so that future insurance costs may be paid for without increasing your out-of-pocket costs. The result is that, each year, the cost of insurance increases, but your premiums remain level.

Advantages

The advantage of annual renewable term life is that your premiums are lower than level term premiums in the early years of the policy. You are also not committed to a long-term contract. You may cancel when you wish and no further premiums will be due. The advantage of level term insurance is that you may purchase insurance for a long period of time and not worry about your premiums increasing. This allows you to budget your insurance costs for the entire length of the term of the policy.

Disadvantages

The disadvantage to annual renewable term life insurance is that the term policy's cost is guaranteed to increase substantially over time. This is because the cost associated with providing a death benefit increase as time goes on due to the fact that you are getting older and closer to death. The disadvantage to level term life insurance is that the policy is more expensive than an annual renewable policy in the early years of the policy, since more money needs to be allocated to investments for the insurer to keep down future insurance costs.

Considerations

If you need life insurance for a very short period of time, generally less than five years, then annual renewable term life may be the best solution for you. If you need life insurance for longer periods of time, up to 30 years, then a level term life policy will be ideal.

References

• "Practicing Financial Planning for Professionals (Practitioners' Edition), 10th Edition"; Sid Mittra, Anandi P. Sahu, Robert A Crane; 2007
• "Life Insurance"; Kenneth Black, Jr., Harold D. Skipper, Jr.; 1994
• "Ernst & Young's Personal Financial Planning Guide, 5th Edition"; Martin Nissenbaum, Barbara J. Raasch, Charles L. Ratner; 2004