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Life Insurance

Choosing the Appropriate Type of Life Insurance

There are two basic types of life insurance: term life insurance and cash value life insurance. There are many policy variations between these two types of life insurance. Term Policies provide life insurance for a specified period of time. This period could be as short as one year or provide coverage for a specific number of years such as 5, 10 and 20 years or to a specified age. If you die during the term period, the company will pay the face value to your beneficiary. If you live beyond the term period you had selected, no benefit is payable. As a rule, term policies offer a death benefit with no savings element or cash value. If you have a limited amount to spend, and only need insurance for a specified period of time, you may be able to get more coverage by buying term insurance than by buying cash value insurance. Keep in mind that the cost of term insurance increases as you get older, which may make it more expensive than cash value insurance in the long run.

Today's term policies usually have two sets of premiums: guaranteed maximum premiums and current premiums. Current premiums are usually much lower, but they can be changed by the insurance company. The insurance company cannot increase the current premium above the guaranteed maximum premiums shown in the policy. When you buy term insurance, you need to make a choice as to how long you want the protection. You may renew the policy without a physical examination for the period of years specified in the policy. Some term insurance can be converted to cash value insurance up to a specified age with no physical examination. Premiums for the converted insurance will most likely be higher than the premiums you would be paying for the term insurance. If you do not pay the premium for your term insurance, it will generally lapse without cash value, as compared to a permanent type of policy that has a cash value component.
Cash Value Insurance combines death benefits with a cash value accumulation feature. The buyer of a cash value policy pays more in the early years than for term insurance, but the premium not needed to pay for the cost of the death benefit accumulates with interest within the policy. If the policy is surrendered before the insured person dies, there may be a cash value paid to the owner, less any outstanding loans placed against the policy. It is not a good idea to buy a cash value life insurance policy if you plan to surrender early due to substantial surrender penalties. If all premiums are paid, cash value insurance usually lasts for the entire life of a person and pays death benefits to the beneficiaries named in the policy upon the death of the insured. The cash value can be used as loan collateral for borrowing funds at the interest rate specified in the State of California Department of Insurance policy. Any outstanding loans are deducted from policy proceeds at death or at policy surrender. Some of these products may enjoy tax advantages while they remain active. Therefore, a policy lapse or surrender may create a taxable event and may generate a Form 1099.

Some of the most popular types of cash value insurance are described below:

Whole Life Insurance (also known as straight life, ordinary life, and traditional permanent insurance) is designed to provide coverage for your entire lifetime unlike term insurance which provides protection for a specified time period. To keep the premium level, the premiums at the younger ages exceed the actual cost of protection. This extra premium builds a reserve (cash value) which helps pay for the policy in later years as the cost of protection rises above the premium. Whole life policies stretch the cost of insurance over a longer period of time in order to level out the otherwise increasing cost of insurance. Under some policies, premiums are required to be paid for a set number of years. Under other policies, premiums are paid throughout the policyholder's lifetime.

Universal Life Insurance is the most flexible of all the various kinds of policies because it treats the elements of the policy separately; universal life allows you to change or skip premium payments or change the death benefit more easily than any other policy. It works by treating the three elements of the policy premium, death benefit, and cash value separately. Cash values are accumulated by crediting premium payments and interest to a fund from which deductions are made for expenses and cost of insurance. Interest rates are linked to an external index such as Treasury bills. Because the cash value element of this type of policy is interest-rate sensitive, predictions of future costs are highly dependent upon the accuracy of interest rate projections. The policy can also be structured to operate like term insurance.

Variable Life Insurance has a death benefit that varies in relation to the investment experience of the assets underlying the policy. A higher rate of return on the invested fund will cause the death benefits to increase, while a low or negative rate will cause the death benefits to decrease.
Variable Universal Life Insurance combines the flexibility of universal life insurance with the investment account features of variable life insurance.

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