What are the Basics of Life Insurance?

Life insurance guarantees that a death benefit is paid if an insured person dies while the policy is in effect.

Various kinds of life insurance exist, and people buy various amounts of coverage for different purposes, most often to provide for the insured’s dependents if the insured dies prematurely. Life insurance represents a contractual obligation by a company to pay a death benefit to an insured person’s designated beneficiaries if the person dies while the policy is in force.

The death benefit tends to be tax-free unless the premiums were deducted by characterizing the life insurance as a permissible kind of deductible expense. The most common use of life insurance is to provide some financial security for a family if a member of the family dies.

This does not have to be the breadwinner: a non-working spouse who takes care of children at home has an economic value to the family, since losing the spouse would introduce new childcare and housekeeping expenses. Life insurance policies will pay if the insured dies for any reason, except for a few exclusions noted in the contract.

Many people are familiar with accidental death insurance, and these can often be added on to a life insurance policy for extra protection. Life insurance companies take health and other risk factors into account when underwriting a policy.

Policies might have a face amount for anywhere from $5,000 to $50,000,000. For larger cases, underwriting will be more stringent since there is a lot of money on the line. Typically underwriting may involve a health questionnaire, as well as a full physical examination with blood and urine samples that the insurance company or brokerage pays for.

Most of the life insurance sold will have two factors: the death benefit, and the premium. Term policies and guaranteed universal life (GUL) policies fall into this category. Term policies only last for a certain number of years, but GULs can last through age 121.

There is also a wide array of life insurance that introduces a cash value component, in which the premiums accumulate according to a fixed rate, or a fixed rate plus dividend or index interest eligibility, or through a portfolio invested in mutual fund-like accounts.

These tend to be permanent, though they can be paid up in the first few years with a significant cash infusion. These have names such as universal life, whole life, indexed universal life, variable universal life, and so on.

Life insurance can be sold alongside the offerings of a cafeteria plan at a job with little or no underwriting for limited face amounts. It can also incorporate long term health benefits such as critical illness coverage and long term care coverage.

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