Are you confused by the many different kinds of life insurance? You are not alone because many people are surprised by all the terminology, variations, and policy types they hear about once they begin shopping for coverage. Don’t be discouraged. Obtaining coverage that’s right for you is not rocket science, and it shouldn’t be. Leave the jargon and complex math to the professionals. Your only job is to find a policy that offers you the financial security you want.
That’s actually the easy part, and here’s why. There are only three basic kinds of life insurance, so it’s pretty simple to narrow down your choices right off the bat. The key thing to do is learn about the three kinds of protection and decide on the one that fits your financial goals. The best way to begin is to review the core concepts of the three categories of coverage, and learn about two other very important concepts that relate to insurance in general.
A modified endowment contract is a way to protect your loved ones with a life insurance policy that does not receive the favorable tax treatment other kinds of policies do. That’s because too much of the total value is paid into the MEC in less than seven years, based on a strict IRS rule. However, there’s a good side to these financial instruments: people use them to convey large amounts of cash to heirs without having to go through probate. Plus, the funds in a MEC are virtually untouchable by creditors. If you intentionally create a modified endowment contract, be sure to discuss the tax repercussions with your agent.
Term insurance is relatively easy to understand because it is the simplest type of contract available to consumers. It lasts for a fixed term, which typically means some increment of five years. You pay a monthly or yearly premium that is fixed and you receive a fixed death benefit. However, during the past few decades, a few variations on the theme have appeared, namely return of premium, decreasing term, and annual renewable. Return of premium costs more but you get your entire paid-in amount back if you outlive the policy. The decreasing policies have level premiums, but the death benefit declines each year. Annual renewable contracts have increasing premiums but static death benefits. They’re usually good until you reach age 90, but by then the premiums are quite high.
As its name implies, you’re covered for your whole life but premiums are much higher than for term insurance. Most whole contracts include a built-up cash value over time against which you can borrow after several years have passed. The benefit payout amount stays the same, as do the premiums, until your death. Many parents prefer this kind of policy because it includes a built-in way to save feature, even though interest rates tend to be lower than market.
These complex policies are a hybrid of other kinds of products. Their death benefit and premiums are both flexible, but that’s not always a good buy for consumers. There are four main variations nowadays, but a few decades ago, all universal contracts included non-fixed premiums and death payouts.