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What Is Life Insurance?
Life insurance is a contract between an insurer and a policy owner. A life insurance policy guarantees the insurer pays a sum of money to named beneficiaries when the insured dies in exchange for the premiums paid by the policyholder during their lifetime.
For the contract to be enforceable, the life insurance application must accurately disclose the insured’s past and current health conditions and high-risk activities.
key takeaways
- Life insurance is a legally binding contract that pays a death benefit to the policy owner when the insured dies.
- For a life insurance policy to remain in force, the policyholder must pay a single premium up front or pay regular premiums over time.
- When the insured dies, the policy’s named beneficiaries will receive the policy’s face value, or death benefit.
- Term life insurance policies expire after a certain number of years. Permanent life insurance policies remain active until the insured dies, stops paying premiums, or surrenders the policy.
- A life insurance policy is only as good as the financial strength of the company that issues it. State guaranty funds may pay claims if the issuer can’t.
Types of Life Insurance
Many different types of life insurance are available to meet all sorts of needs and preferences. Depending on the short- or long-term needs of the person to be insured, the major choice of whether to select temporary or permanent life insurance is important to consider.
Term life insurance
Term life insurance lasts a certain number of years, then ends. You choose the term when you take out the policy. Common terms are 10, 20, or 30 years. The best term life insurance policies balance affordability with long-term financial strength.
- Decreasing Term Life Insurance—decreasing term is renewable term life insurance with coverage decreasing over the life of the policy at a predetermined rate.
- Convertible Term Life Insurance—convertible term life insurance allows policyholders to convert a term policy to permanent insurance.
- Renewable Term Life Insurance—is a yearly renewable term life policy that provides a quote for the year the policy is purchased. Premiums increase annually and is usually the least expensive term insurance in the beginning.
Permanent life insurance
Permanent life insurance stays in force for the insured’s entire life unless the policyholder stops paying the premiums or surrenders the policy. It’s typically more expensive than term.
- Whole Life—whole life insurance is a type of permanent life insurance that accumulates cash value. Cash value life insurance allows the policyholder to use the cash value for many purposes, such as a source of loans or cash or to pay policy premiums.
- Universal Life—a type of permanent life insurance with a cash value component that earns interest, universal life features flexible premiums. Unlike term and whole life, the premiums can be adjusted over time and can be designed with a level death benefit or an increasing death benefit.
- Indexed Universal—this is a type of universal life insurance that lets the policyholder earn a fixed or equity-indexed rate of return on the cash value component.
- Variable Universal—with variable universal life insurance, the policyholder is allowed to invest the policy’s cash value in an available separate account. It also has flexible premiums and can be designed with a level death benefit or an increasing death benefit.
Tip: Burial or final expense insurance is a type of permanent life insurance that has a small death benefit. Despite the names, beneficiaries can use the death benefit as they wish.
Important: We publish unbiased product reviews; our opinions are our own and are not influenced by payment we receive from our advertising partners. Learn more about how we review products and read our advertiser disclosure for how we make money. And see our complete list of the best companies for different types of policies.
Top-Rated Companies to Compare
| Company | AM Best Rating | Coverage Capacity | Issue Ages | Policies Offered |
|---|---|---|---|---|
| Prudential Best Overall Compare Quotes on Policygenius | A+ | Not Stated | 18-75 | Term, variable, and universal |
| State Farm Best Instant Issue Compare Quotes on Policygenius | A++ | Not Stated | 18-75 | Term, whole, and universal |
| Transamerica Best Value Compare Quotes on Policygenius | A | Not Stated | 18-80 | Term, whole, universal, and final expense |
| Northwestern Mutual Best Whole Life | A++ | Not Stated | 0-80 | Term, whole, and universal |
| New York Life Best Term Policies Compare Quotes on Policygenius | A++ | $5,000,000 and up | 0-90 | Term, whole, and universal |
| Mutual of Omaha Best for No Medical Exams Compare Quotes on Policygenius | A+ | $100,000 and up (term life) | 0-85 | Term, whole, universal, children’s, and accidental death |
| USAA Best for Military | A++ | $10,000,000 | 0-85 | Term and permanent |
Term vs. Permanent Life Insurance
Term life insurance differs from permanent life insurance in several ways but tends to best meet the needs of most people. Term life insurance only lasts for a set period of time and pays a death benefit should the policyholder die before the term has expired. Permanent life insurance stays in effect as long as the policyholder pays the premium. Another key difference involves premiums—term life is generally much less expensive compared to permanent life because it does not involve building a cash value.
Watch Now: What Is Life Insurance?
Before you apply for life insurance, you should analyze your financial situation and determine how much money would be required to maintain your beneficiaries’ standard of living or meet the need for which you’re purchasing a policy.
For example, if you are the primary caretaker and have children who are 2 and 4 years old, you would want enough insurance to cover your custodial responsibilities until your children are grown up and able to support themselves. You might research the cost to hire a nanny and a housekeeper or to use commercial child care and a cleaning service, then perhaps add some money for education. Include any outstanding mortgage and retirement needs for your spouse in your life insurance calculation. Especially if the spouse earns significantly less or is a stay at home parent. Add up what these costs would be over the next 16 or so years, add more for inflation, and that’s the death benefit you might want to buy—if you can afford it.
How Much Life Insurance to Buy
Many factors can affect the cost of life insurance premiums. Certain things may be beyond your control, but other criteria can be managed to potentially bring down the cost before applying.
After being approved for an insurance policy, if your health has improved and you’ve made positive lifestyle changes, you can request to be considered for change in risk class. Even if it is found that you’re poorer health than at the initial underwriting, your premiums will not go up. If you’re found to be in better health then you can expect your premiums to decrease.
STEP 1 – Determine How Much You Need
Think about what expenses would need to be covered in the event of your death. Things like mortgage, college tuition, and other debts, not to mention funeral expenses. Plus, income replacement is a major factor if your spouse or loved ones need cash flow and are not able to provide it on their own.
There are helpful tools online to calculate the lump sum that can satisfy any potential expenses that would need to be covered.
What Affects Your Life Insurance Premiums and Costs?
STEP 2 – Prepare Your Application
- Age: This is the most important factor because life expectancy is the biggest determinant of risk for the insurance company.
- Gender: Because women statistically live longer, they generally pay lower rates than a male of the same age.
- Smoking: A person who smokes is at risk for many health issues that could shorten life and increase risk-based premiums.
- Health: Medical exams for most policies include screening for health conditions like heart disease, diabetes and cancer, and related medical metrics that can indicate risk.
- Lifestyle: Dangerous lifestyles can make premiums much more expensive.
- Family medical history: If you have evidence of major disease in your immediate family, your risk of developing certain conditions is much higher.
- Driving record: A history of moving violations or drunk driving can dramatically increase the cost of insurance premiums.
Life Insurance Buying Guide
Life insurance applications generally require personal and family medical history along with beneficiary information. You will also likely need to submit to a medical exam and will need to disclose any preexisting medical conditions, history of moving violations, or DUIs, as well as any dangerous hobbies such as auto racing or skydiving.
Standard forms of identification will also be needed before a policy can be written, such as your Social Security card, driver’s license, and/or U.S. passport.
STEP 3 – Compare Policy Quotes
When you’ve assembled all of your necessary information, you can gather multiple life insurance quotes from different providers based on your research. Prices can differ markedly from company to company, so it’s important to go to the effort to find the best combination of policy, company rating, and premium cost. Because life insurance is something you will likely pay on a monthly basis for decades, it can save an enormous amount of money to find the best policy to fit your needs.
Benefits of Life Insurance
There are many benefits to having life insurance. Below are some of the most important features and protections offered by life insurance policies.
Most people use life insurance to provide money to beneficiaries who would suffer a financial hardship upon the insured’s death. However, for wealthy individuals, the tax advantages of life insurance, including the tax-deferred growth of cash value, tax-free dividends, and tax-free death benefits, can provide additional strategic opportunities.
Avoiding Taxes—the death benefit of a life insurance policy is usually tax-free.1
Wealthy individuals sometimes buy permanent life insurance within a trust to help pay the estate taxes that will be due upon their death. This strategy helps to preserve the value of the estate for their heirs. Tax avoidance is a law-abiding strategy for minimizing one’s tax liability and should not be confused with tax evasion, which is illegal.
Who Needs Life Insurance?
Life insurance provides financial support to surviving dependents or other beneficiaries after the death of an insured policyholder. Here are some examples of people who may need life insurance:
- Parents with minor children—if a parent dies, the loss of their income or caregiving skills could create a financial hardship. Life insurance can make sure the kids will have the financial resources they need until they can support themselves.
- Parents with special-needs adult children—for children who require lifelong care and will never be self-sufficient, life insurance can make sure their needs will be met after their parents pass away. The death benefit can be used to fund a special needs trust that a fiduciary will manage for the adult child’s benefit.2
- Adults who own property together—married or not, if the death of one adult would mean that the other could no longer afford loan payments, upkeep, and taxes on the property, life insurance may be a good idea. One example would be an engaged couple who take out a joint mortgage to buy their first house.
- Seniors who want to leave money to adult children who provide their care—many adult children sacrifice time at work to care for an elderly parent who needs help. This help may also include direct financial support. Life insurance can help reimburse the adult child’s costs when the parent passes away.
- Young adults whose parents incurred private student loan debt or cosigned a loan for them—young adults without dependents rarely need life insurance, but if a parent will be on the hook for a child’s debt after their death, the child may want to carry enough life insurance to pay off that debt.
- Children or young adults who want to lock in low rates—the younger and healthier you are, the lower your insurance premiums. A 20-something adult might buy a policy even without having dependents if there is an expectation to have them in the future.
- Stay at home spouses – stay at home spouse should have life insurance as they have significant economic value based on the work they do in the home. According to Salary.com, the economic value of a stay at home parent would have been equivalent to an annual salary of $162,581 in 2018.3
- Wealthy families who expect to owe estate taxes—life insurance can provide funds to cover the taxes and keep the full value of the estate intact.
- Families who can’t afford burial and funeral expenses—a small life insurance policy can provide funds to honor a loved one’s passing.
- Businesses with key employees—if the death of a key employee, such as a CEO, would create a severe financial hardship for a firm, that firm may have an insurable interest that will allow it to purchase a life insurance policy on that employee.
- Married pensioners—instead of choosing between a pension payout that offers a spousal benefit and one that doesn’t, pensioners can choose to accept their full pension and use some of the money to buy life insurance to benefit their spouse. This strategy is called pension maximization.
- Those with preexisting conditions—such as cancer, diabetes, or smoking. Note, however, that some insurers may deny coverage for such individuals, or else charge very high rates.
Considerations Before Buying Life Insurance
Research policy options and company reviews—because life insurance policies are a major expense and commitment, it’s critical to do proper due diligence to make sure the company you choose has a solid track record and financial strength, given that your heirs may not receive any death benefit for many decades into the future. Investopedia has evaluated scores of companies that offer all different types of insurance and rated the best in numerous categories.
Life insurance can be a prudent financial tool to hedge your bets and provide protection for your loved ones in case of death should you die while the policy is in force. However, there are situations in which it makes less sense—such as buying too much or insuring those whose income doesn’t need to be replaced. So, it’s important to consider the following:
What expenses couldn’t be met if you died? If your spouse has a strong income and you don’t have any children, maybe it’s not warranted. It is still important to consider the impact of your potential death on a spouse and consider how much financial support they would need to grieve without worrying about returning to work before they’re ready. However, if both spouses’ income is necessary to maintain a desired lifestyle or meet financial commitments, then both spouses may need separate life insurance coverage.
If you’re buying a policy on another family member’s life, it’s important to ask—what are you trying to insure? Children and seniors really don’t have any meaningful income to replace, but burial expenses may need to be covered in the event of their death. Beyond burial expenses, a parent may also want to protect their child’s future insurability by purchasing a moderate sized policy when they are young. Doing so allows that parent to insure that their child can financially protect their future family. Parents are only allowed to purchase life insurance on their children up to 25% of the in force policy on their own lives.
Could investing the money that would be paid in premiums for permanent insurance over the course of a policy earn a better return over time? As a hedge against uncertainty, consistent saving and investing—for example, self-insuring—might make more sense in some cases if a significant income doesn’t need to be replaced or if policy investment returns on cash value are overly conservative.
How Life Insurance Works
A life insurance policy has two main components—a death benefit and a premium. Term life insurance has these two components, but permanent or whole life insurance policies also have a cash value component.
- Death Benefit—the death benefit or face value is the amount of money the insurance company guarantees to the beneficiaries identified in the policy when the insured dies. The insured might be a parent, and the beneficiaries might be their children, for example. The insured will choose the desired death benefit amount based on the beneficiaries’ estimated future needs. The insurance company will determine whether there is an insurable interest and if the proposed insured qualifies for the coverage based on the company’s underwriting requirements related to age, health, and any hazardous activities in which the proposed insured participates4.
- Premium—premiums are the money the policyholder pays for insurance.The insurer must pay the death benefit when the insured dies if the policyholder pays the premiums as required, and premiums are determined in part by how likely it is that the insurer will have to pay the policy’s death benefit based on the insured’s life expectancy. Factors that influence life expectancy include the insured’s age, gender, medical history, occupational hazards, and high-risk hobbies.4 Part of the premium also goes toward the insurance company’s operating expenses. Premiums are higher on policies with larger death benefits, individuals who are at higher risk, and permanent policies that accumulate cash value.
- Cash Value—the cash value of permanent life insurance serves two purposes. It is a savings account that the policyholder can use during the life of the insured; the cash accumulates on a tax-deferred basis. Some policies may have restrictions on withdrawals depending on how the money is to be used. For example, the policyholder might take out a loan against the policy’s cash value and have to pay interest on the loan principal. The policyholder can also use the cash value to pay premiums or purchase additional insurance. The cash value is a living benefit that remains with the insurance company when the insured dies. Any outstanding loans against the cash value will reduce the policy’s death benefit.
Tip: The policy owner and the insured are usually the same person, but sometimes they may be different. For example, a business might buy key person insurance on a crucial employee such as a CEO, or an insured might sell their own policy to a third party for cash in a life settlement.
Life Insurance Riders and Policy Changes
Many insurance companies offer policyholders the option to customize their policies to accommodate their needs. Riders are the most common way policyholders may modify or change their plan. There are many riders, but availability depends on the provider. The policyholder will typically pay an additional premium for each rider or a fee to exercise the rider, though some policies include certain riders in their base premium.
- The accidental death benefit rider provides additional life insurance coverage in the event the insured’s death is accidental.
- The waiver of premium rider relieves the policyholder of making premium payments if the insured becomes disabled and unable to work.
- The disability income rider pays a monthly income in the event the policyholder becomes unable to work for several months or longer due to a serious illness or injury.
- Upon diagnosis of terminal illness, the accelerated death benefit rider allows the insured to collect a portion or all of the death benefit.
- The long-term care rider is a type of accelerated death benefit that can be used to pay for nursing-home, assisted-living, or in-home care when the insured requires help with activities of daily living, such as bathing, eating, and using the toilet.
- A guaranteed insurability rider lets the policyholder buy additional insurance at a later date without a medical review.
Borrowing Money—most permanent life insurance accumulates cash value that the policyholder can borrow against. Technically, you are borrowing money from the insurance company and using your cash value as collateral. Unlike with other types of loans, the policyholder’s credit score is not a factor. Repayment terms can be flexible, and the loan interest goes back into the policyholder’s cash value account. Policy loans can reduce the policy’s death benefit, however.
Important: Each policy is unique to the insured and insurer. It’s important to review your policy document to understand what risks your policy covers, how much it will pay your beneficiaries, and under what circumstances.
Funding Retirement—policies with a cash value or investment component can provide a source of retirement income. This opportunity can come with high fees and a lower death benefit, so it may only be a good option for individuals who have maxed out other tax-advantaged savings and investment accounts. The pension maximization strategy described earlier is another way life insurance can fund retirement.
Tip: It’s prudent to reevaluate your life insurance needs annually or after significant life events, such as divorce, marriage, the birth or adoption of a child, or major purchases, such as a house. You may need to update the policy’s beneficiaries, increase your coverage, or even reduce your coverage.
Qualifying for Life Insurance
Insurers evaluate each life insurance applicant on a case-by-case basis, and with hundreds of insurers to choose from, almost anyone can find an affordable policy that at least partially meets their needs. In 2018 there were 841 life insurance and annuity companies in the United States, according to the Insurance Information Institute.
On top of that, many life insurance companies sell multiple types and sizes of policies, and some specialize in meeting specific needs, such as policies for people with chronic health conditions. There are also brokers who specialize in life insurance and know what different companies offer. Applicants can work with a broker free of charge to find the insurance they need. This means that almost anyone can get some type of life insurance policy if they look hard enough and are willing to pay a high enough price or accept a perhaps less-than-ideal death benefit.
Insurance is not just for the healthy and wealthy, and because the insurance industry is much broader than many consumers realize, getting life insurance may be possible and affordable even if previous applications have been denied or quotes have been unaffordable.
In general, the younger and healthier you are, the easier it will be to qualify for life insurance, and the older and less healthy you are, the harder it will be. Certain lifestyle choices, such as using tobacco or engaging in risky hobbies such as skydiving, also make it harder to qualify or lead to higher rates.
Who needs life insurance?
Life insurance is most useful for people who need to provide security for a spouse, children, or other family members in the event of their death. Life insurance death benefits, depending on the policy amount, can help beneficiaries pay off a mortgage, cover college tuition, or help fund retirement. Permanent life insurance also features a cash value component that builds over time.
What Affects Your Life Insurance Premiums?
- Age
- Gender
- Smoking
- Health
- Lifestyle
- Family medical history
- Driving record
What are the benefits of life insurance?
- Payouts are tax-free—death benefits are paid as a lump sum and are not subject to federal income tax because they are not considered income for beneficiaries.
- Dependents don’t have to worry about living expenses—most policy calculators recommend a multiple of your gross income equal to seven to 10 years that can cover major expenses like mortgages and college tuition without the surviving spouse or children having to take out loans.
- Final expenses can be covered—funeral expenses can be significant and can be avoided with a burial policy or with standard term or permanent life policies.
- Policies can supplement retirement savings—permanent life policies such as whole, universal, and variable life insurance can offer cash value in addition to death benefits, which can augment other savings in retirement.
How do you qualify for life insurance?
Life insurance is available to anyone, but the cost or premium level can vary greatly based on the risk level an individual presents based on factors like age, health, and lifestyle. Life insurance applications generally require the customer to provide medical records and medical history and submit to a medical exam. Some types of life insurance such as guaranteed approval life don’t require medical exams but generally have much higher premiums and involve an initial waiting period before taking effect and offering a death benefit.
How does life insurance work?
Life insurance policies all offer a death benefit in exchange for paying premiums to the insurance provider during the term of the policy. One popular type of life insurance—term life insurance— only lasts for a set amount of time, such as 10 or 20 years during which the policyholder needs to offset the financial impact of losing income. Permanent life insurance also features a death benefit but lasts for the life of the policyholder as long as premiums are maintained and can include cash value that builds over time.
Frequently asked questions
How much does life insurance cost per month on average?
When you get a quote, the rate is affected by many variables, including the life insurance company, policy type, coverage amount, length of term, gender, health status, and other factors. According to the Life Insurance Learn Center7, the monthly cost for $1,000,000 of coverage for the average male at age 30 is $48; at age 40, it’s $73; at age 50, it’s $177. Women tend to live longer and enjoy slightly lower rates, so $1,000,000 of coverage for a female age 30 is $37; at age 40, it’s $53; at 50, it’s $133.
Are life insurance policies taxable?
Life insurance death benefits are almost always income-tax free. The cash value growth of a universal or whole life insurance policy is also tax-deferred, so it can grow faster because it’s not being reduced by taxes each year.
What is the best life insurance policy?
The best policy for you depends on your needs and budget. If you’re looking for life-long insurance protection that also earns cash value, there are two main options: whole life and universal life. A whole policy offers level premiums and more guarantees, but a universal policy can be more affordable because it offers variable premiums that you can raise or lower within a certain range. The insurance company may also let you customize your policy with various provisions, such as an accelerated death benefit rider to pay for end of life needs and even certain kinds of long term care. If you don’t need permanent coverage or cash value, which can provide benefits such as policy loans, term life insurance quotes will generally be lower.
Is life insurance worth getting?
If you have loved ones who depend on you for income, life insurance is one of the best ways to help provide for their financial needs if you die unexpectedly. Life insurance companies also have specialized kinds of policies for customers with varying incomes and other needs, such high net-worth individuals looking to transfer assets more easily without incurring added estate taxes (you should always consult with a professional for tax advice first). On the other hand, if you have no financial dependents or heirs that you wish to provide for, then life insurance may not be worth getting.
1. Is life insurance worth buying?
Yes, life insurance is a worthy purchase. Anybody with financial dependents will find the benefits of buying life insurance attractive. In case of the demise of the only income earner, a life insurance policy becomes a financial safety net that helps your loved ones pay for expenses such as a loan, childcare, education, health, and many other everyday bills. Life insurance is an affordable way to financially protect the people you love most.
2. How to claim life insurance after death?
It is a simple process. You can report your claims online, at our branches, central office, via SMS, e-mail or through our call center as per your convenience. Physical documents will be required to be sent to the nearest branch to start the process. The documents needed are:
- Claimant’s statement form
- For Lender Borrower Group (only for Credit Life policies) – claimant’s statement / claim intimation form
- For Affinity / Employer-Employee Group – claimant’s statement / claim intimation form
- Original Policy Document
- Copy of death certificate issued by Local Municipal Authority
- Copy of claimant’s photo identification proof and current address proof
- Cancelled cheque/ Copy of bank passbook
- Copy of medico legal cause of death certificate
- Medical records (admission notes, discharge/ death summary, indoor case papers, test reports, etc.)
- Prior medical records of insured/ Life assured
- Medical attendant’s/ hospital certificate issued by doctor
- Certificate from employer (for salaried individuals)
In addition, below Documents required for Accidental/ Suicidal Death
- Post Mortem Report and chemical viscera report
- FIR/ Panchnama/ Inquest Report and final investigation report
- Copy of driving license if Life Assured was driving the vehicle at the time of accident (applicable if ‘Accident and Disability Benefit Rider’ is opted)
Next, our claims department/team will assess the claim and inform in case any further documents need to be submitted. Once your claim is intimated and the life insurance company receives all the relevant approvals and then settle all the valid claims through cheque or Electronic Clearance System (ECS)
3. How many beneficiaries can be on a life insurance policy?
There is no limit on the number of beneficiaries you can add to your policy. However, if the insured has a will and it specifies who the amount of the insurance benefit should go to after he/she passes away, then the benefit will go to the person mentioned in the will irrespective of the mentioned nominee.
4. How long does it take to get life insurance amount after a death?
- With ClaimForSure, we provide guaranteed death claim settlement within one day*, making sure your family receives financial support when it needs it the most. In case there is any delay beyond one working day, your nominee will be paid interest* on the claim amount for every day of delay
To avail ClaimForSure,
- Policies have to be active for a continuous 3 years with all due premiums paid
- All mandatory claim documents* should be submitted at the branch before 3 pm on a working day
- Total claim amount of all policies should be less than or equal to ₹1.5 Crore
- Claim must be a non-investigative case
Otherwise for all other claims, our average turn-around time for settling a claim as of FY 18-19 is 2.34 days**, with 79% of claims being settled within 3 days
Life Insurance – Meaning
Life Insurance can be defined as a contract between an insurance policy holder and an insurance company, where the insurer promises to pay a sum of money in exchange for a premium, upon the death of an insured person or after a set period. Here, at ICICI Prudential Life Insurance, you pay premiums for a specific term and in return, we provide you with a Life Cover. This Life Cover secures your loved ones’ future by paying a lump sum amount in case of an unfortunate event. In some policies, you are paid an amount called Maturity Benefit at the end of the policy term.
There are two basic types of Life Insurance plans –
- 1. Pure Protection
- 2. Protection and Savings
What is Pure Protection Plan?
A Pure Protection plan is designed to secure your family’s future by providing a lump sum amount, in your absence.
What is Protection and Savings Plan?
A Protection and Savings plan is a financial tool that helps you plan for your long-term goals like purchasing a home, funding your children’s education, and more, while offering the benefits of a Life Cover.
Let us understand some commonly used terms in Life Insurance:
- Life Assured: It is the person who is covered under the insurance policy
- Proposer: It is the person who pays the premiums of the policy. For example: If you have bought the policy for yourself, then you are both the Life Assured as well as the Proposer. Similarly, if you purchase an insurance policy for a family member, then you are the proposer and the family member is the Life Assured.
- Nominee or Beneficiary: It is the person you appoint at the time of buying the policy to receive the benefits of your insurance policy, in your absence.
- Insurer: The insurance company that sells the life insurance policy is called the Insurer (for example, ICICI Prudential Life Insurance).
- Life Cover: It is the amount that the Insurer will pay to your Nominee in case of an unfortunate event.
- Maturity Benefit: For Protection + Savings policies, the Insurer pays a certain lump sum of money on completion of the policy term. This amount is known as the Maturity Amount.
- Premium: A premium is the amount you pay to the insurer for receiving the benefits of the insurance policy. These payments can be made on a regular basis throughout the policy duration, for a limited number of years or just once, as per the options available under the policy you choose.
- Premium Payment Term: The number of years for which you pay the premiums is known as the Premium Payment Term.
- Policy Term: The number of years for which the Life Cover continues.
Let us understand how Life Insurance works:
In today’s era, having a life insurance policy is a must for every individual as it is one of the best ways to secure one’s future along with their loved ones. There are many different types of life insurance policies available in the market. However, before choosing one, it is important to understand how a life insurance policy works. Let us look at an example to understand how life insurance works:
Now, let’s see an example:
Mr. Kumar (Life Assured) pays ICICI Prudential Life Insurance (Insurer) an annual amount (Premium) over 5 years (Premium Payment Term) to make sure that his wife (Nominee) gets a certain assured sum of money (Life Cover) in case of an unfortunate event during the 10 years or Lumpsum amount at maturity on survival at the end of policy term.
Life insurance not only covers the risk arising due to an unfortunate event, but also gives you additional benefits like tax benefits, savings and wealth creation over a period of time. The right life insurance plan from a trusted company can help one get long-term risk cover plus savings, i.e. dual benefits from one solution.
Do you need life insurance?
Take the time to consider how much money your loved ones might need to maintain their living standards if you were to pass away. This might include costs such as bills, mortgage repayments, school fees and any other debts you might need to repay.
How long do I need cover for?
When it comes to how long you need cover for, think about how long your kids will need financial support, or when your other half might retire.
Joint or separate life insurance policy?
If you and your partner would like combined cover, you can take out a joint policy. This pays out once and won’t provide cover for the second person after the first passes away.
You can also both take out two separate policies. So once we pay out for one person their policy will end – but the second person’s policy will continue.
Taxation
India
According to the section 80C of the Income Tax Act, 1961 (of Indian penal code) premiums paid towards a valid life insurance policy can be exempted from the taxable income. Along with life insurance premium, section 80C allows exemption for other financial instruments such as Employee Provident Fund (EPF), Public Provident Fund (PPF), Equity Linked Savings Scheme (ELSS), National Savings Certificate (NSC), health insurance premium are some of them. The total amount that can be exempted from the taxable income for section 80C is capped at a maximum of INR 150,000. The exemptions are eligible for individuals (Indian citizens) or Hindu Undivided Family (HUF).
Apart from tax benefit under section 80C, in India, a policy holder is entitled for a tax exemption on the death benefit received. The received amount is fully exempt from Income Tax under Section 10(10D).
Australia
Where the life insurance is provided through a superannuation fund, contributions made to fund insurance premiums are tax deductible for self-employed persons and substantially self-employed persons and employers. However where life insurance is held outside of the superannuation environment, the premiums are generally not tax deductible. For insurance through a superannuation fund, the annual deductible contributions to the superannuation funds are subject to age limits. These limits apply to employers making deductible contributions. They also apply to self-employed persons and substantially self-employed persons. Included in these overall limits are insurance premiums. This means that no additional deductible contributions can be made for the funding of insurance premiums. Insurance premiums can, however, be funded by undeducted contributions. For further information on deductible contributions see “under what conditions can an employer claim a deduction for contributions made on behalf of their employees?” and “what is the definition of substantially self-employed?”. The insurance premium paid by the superannuation fund can be claimed by the fund as a deduction to reduce the 15% tax on contributions and earnings. (Ref: ITAA 1936, Section 279).
South Africa
Premiums paid by a policyholder are not deductible from taxable income, although premiums paid via an approved pension fund registered in terms of the Income Tax Act are permitted to be deducted from personal income tax (whether these premiums are nominally being paid by the employer or employee). The benefits arising from life assurance policies are generally not taxable as income to beneficiaries (again in the case of approved benefits, these fall under retirement or withdrawal taxation rules from SARS). Investment return within the policy will be taxed within the life policy and paid by the life assurer depending on the nature of the policyholder (whether natural person, company-owned, untaxed or a retirement fund).
United States
Premiums paid by the policy owner are normally not deductible for federal and state income tax purposes, and proceeds paid by the insurer upon the death of the insured are not included in gross income for federal and state income tax purposes. However, if the proceeds are included in the “estate” of the deceased, it is likely they will be subject to federal and state estate and inheritance tax.
Cash value increases within the policy are not subject to income taxes unless certain events occur. For this reason, insurance policies can be a legal and legitimate tax shelter wherein savings can increase without taxation until the owner withdraws the money from the policy. In flexible-premium policies, large deposits of premium could cause the contract to be considered a modified endowment contract by the Internal Revenue Service (IRS), which negates many of the tax advantages associated with life insurance. The insurance company, in most cases, will inform the policy owner of this danger before deciding their premium.
The tax ramifications of life insurance are complex. The policy owner would be well advised to carefully consider them. As always, both the United States Congress and state legislatures can change the tax laws at any time.
In 2018, a fiduciary standard rule on retirement products by the United States Department of Labor posed a possible risk.
United Kingdom
Premiums are not usually deductible against income tax or corporation tax, however qualifying policies issued prior to 14 March 1984 do still attract LAPR (Life Assurance Premium Relief) at 15% (with the net premium being collected from the policyholder).
Non-investment life policies do not normally attract either income tax or capital gains tax on a claim. If the policy has as investment element such as an endowment policy, whole of life policy or an investment bond then the tax treatment is determined by the qualifying status of the policy.
Qualifying status is determined at the outset of the policy if the contract meets certain criteria. Essentially, long term contracts (10+ years) tend to be qualifying policies and the proceeds are free from income tax and capital gains tax. Single premium contracts and those running for a short term are subject to income tax depending upon the marginal rate in the year a gain is made. All UK insurers pay a special rate of corporation tax on the profits from their life book; this is deemed as meeting the lower rate (20% in 2005-06) of liability for policyholders. Therefore, a policyholder who is a higher-rate taxpayer (40% in 2005-06), or becomes one through the transaction, must pay tax on the gain at the difference between the higher and the lower rate. This gain is reduced by applying a calculation called top-slicing based on the number of years the policy has been held. Although this is complicated, the taxation of life assurance-based investment contracts may be beneficial compared to alternative equity-based collective investment schemes (unit trusts, investment trusts and OEICs). One feature which especially favors investment bonds is the “5% cumulative allowance”—the ability to draw 5% of the original investment amount each policy year without being subject to any taxation on the amount withdrawn. If not used in one year, the 5% allowance can roll over into future years, subject to a maximum tax-deferred withdrawal of 100% of the premiums payable. The withdrawal is deemed by the HMRC (Her Majesty’s Revenue and Customs) to be a payment of capital and therefore, the tax liability is deferred until maturity or surrender of the policy. This is an especially useful tax planning tool for higher rate taxpayers who expect to become basic rate taxpayers at some predictable point in the future, as at this point the deferred tax liability will not result in tax being due.
The proceeds of a life policy will be included in the estate for death duty (in the UK, inheritance tax) purposes. Policies written in trust may fall outside the estate. Trust law and taxation of trusts can be complicated, so any individual intending to use trusts for tax planning would usually seek professional advice from an independent financial adviser and/or a solicitor.
Pension term assurance
Although available before April 2006, from this date pension term assurance became widely available in the UK. Most UK insurers adopted the name “life insurance with tax relief” for the product. Pension term assurance is effectively normal term life assurance with tax relief on the premiums. All premiums are paid at a net of basic rate tax at 22%, and higher-rate tax payers can gain an extra 18% tax relief via their tax return. Although not suitable for all, PTA briefly became one of the most common forms of life assurance sold in the UK until, ChancellorGordon Brown announced the withdrawal of the scheme in his pre-budget announcement on 6 December 2006.
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