Basics of Term Life Insurance

The simplest form of life insurance and the most cost efficient is term life insurance. The concept is very simple. Life insurance is taken out for a fixed term during which time the premium remains constant. If the insured dies within that term of the policy, the sum insured is paid to the beneficiary. If the insured lives beyond the term of the policy, then all benefits are lost.

Insurance brokers often keep term insurance as their biggest secret. Term policies do not pay nearly as much commission as the policies that promise cash returns over the course of the policy’s life.

To provide term insurance, the Life Company or insurer calculates the cost of life cover for the term of the policy. This cost represents the risk to the life company. The cost increases according to the age of the insured. The cost is calculated for each age for the duration of the term.

The following example provides an illustration of the process, but the amounts quoted are fictional. A twenty-five year old male purchases a policy for a term of twenty years. The sum insured – the amount that the life company will pay on death – is $100,000. The risk of death at age 25 is approximately 1.374 per thousand. By the time he reaches age 45, the risk has increased to 3.890 per thousand. The cost of life cover at age 25 is therefore $1.374 for every thousand dollars of cover and the $100,000 cover will cost the life company $137.40. At age 45 this has increased to $3.89 per $1000 or $389 for the $100,000 cover.

Offering life cover at this cost would be the same as a casino offering odds of 36:1 on a roulette wheel with one zero. There would be no advantage for the casino, and no advantage for the life company. The life company therefore adds a margin to cover the costs of administration, commission, and for some profit. This margin could be anything from 10 to 100% of the risk cost.

The rates for each age are summed and divided by 240 to arrive at the monthly premium. The premium – lets say $20 per month is payable each month by the insured. If payments stop, so does the cover.

The insurer will want to know that it is not carrying a risk that is higher than the average, and may call for some health information. For a large sum insured, this could extend to medicals an examination and a variety of tests. If the insured has a history of certain diseases, then the insurer may either decline the application or make an offer with a loaded premium.

As with all insurance, non-disclosure or providing false information is regarded as a serious violation of the terms of the policy. Non disclosure is generally seen as grounds for refuting a claim. If you are planning to take out life insurance, make sure that your application is accurate and that all relevant information is included. If the premium is loaded s a result then pay the difference. It is preferable to having a policy that is worthless!

Ancillary benefits are additional benefits that may be tagged to the policy for a small additional premium. These may include a return of premium option. This allows you to get your premiums back if you are still alive at the end of the term. Disability cover may be added, but beware. Disability on an insurance policy has a very specific definition. Guaranteed renewal options provide you with the opportunity to renew the term insurance for a further five years without any medical evidence.

Term life insurance is the simplest and most straightforward of all of the life products. It is also the most cost efficient. It is designed to cover only risk. For investments look at equities and property not life insurance.