DeNoble Financial Services

Life Insurance

Life insurance comes in a variety of flavors. Principally the major 3 are term, permanent and variable. From these stem different varieties that meet certain needs.

There are a lot of misconceptions regarding life insurance. First one often heard is “I can’t afford it.” Another is that it is “too hard to understand. It is a complex product.” I will address these here as we go over each major type.

First is term insurance. It is the simplest in many ways. The key to understanding it is to think of what it is called- TERM. It will provide insurance protection for a specified period of time. Both you and the insurance company think you will outlive the period if you are purchasing the policy when you are young and healthy. You are willing to pay a little in the event something terrible happens. The company doesn’t charge much because they have looked at your health and your lifestyle and cover the risk. The situation changes drastically as you age. The possibility of dying goes up and the price goes up and the terms, or period covered, go down. In the end, term insurance is pure protection against an untimely death. It suits the needs of some very well. In term policies, there are several different types. The most common, and what people typically think of, is level term. The policy costs the same throughout the life of the policy. Once written, it cannot change. Another type is called ART. You might see it on a policy illustration and wonder what it is. ART is Annual Renewable Term. It is what unscrupulous agents sell by telling the client that they can get a policy for some fantastically low price. ART is just what it sounds like, a policy that renews annually. Two things happen. One, since it is annually renewing, your health enters into the pricing every year. If something happened and you can’t get coverage you could be out of insurance when you most need it. The other thing is that the price goes up each year. A policy that could be $200 a year in the first year could be $1200 a year after 15 years. There are very few instances where this type of policy is in the interest of the client. Decreasing term is a policy that reduces the payment each year. It is sold sometimes for mortgage protection, again by agents who might have their interests instead of the clients at stake. If the price is going down over time, so is the coverage. It tracks a mortgage. The problem is what could occur if the policy owner were to die in the last couple years. The beneficiary could pay off the mortgage but have nothing else. It is pure, simple protection for one situation. Term insurance is also what is provided through employer group plans. For those just starting out, with limited resources now, but family to provide for, a term policy is ideal. Many of us start our adult lives renting an apartment or house. Term is like that. You pay but get no benefit unless you die.

Permanent insurance is just what it says, a policy that is going to stay with you your entire life. Whole life is one type of permanent insurance and universal life is also a type of permanent insurance. Whole life is the type of policy that has been around for years. The premium payments covers insurance and there is a separate account with a fixed interest rate that allows the policy to build cash value. Whole life policies are written by both stock companies and mutual companies. The time this is important is when dividends are paid. Stock companies typically pay dividends to shareholders, while mutual companies pay dividends to policy owners. For the policy owner with a mutual company, the dividend is another means of growing cash values. Most mutual companies, including all the ones I work with, have paid a dividend every year for decades. Often, people will say that there is no value to buying a whole life policy, that you should buy term and invest the difference. There are several things that are not talked about in that. First is most people buy term and spend the difference. If you simply cannot afford the permanent policy, term is what you should buy. You can’t invest the difference now, but when you can, there are other conversations to have. The other thing to consider is taxes. Growth of the cash value in a life insurance policy grows tax free. The death benefit is also tax free in most cases, as are most withdrawals. These are the things that people say make it confusing. Let’s use the house comparison again. If you rent and want to change the appliances, if the landlord says no, you can’t. If you want to cut a tree down or plant a garden, it all has to be approved. When you own the house, you do what you want with it. The same is true with permanent life insurance policies. You own it so you can use it as you want. If you want to take some money out to pay off a loan, you can. If you own a small business and need some cash, instead of borrowing from a bank, you can take money from the policy. There is flexibility and tax advantages that you don’t get with owning a mutual fund. Universal Life is a plan that has a combination of term and cash value. Rather than pay a fixed interest rate, you have indices that track stock market indexes and provide higher rates of return in many years. Also, you can adjust the premium you are paying. There are great advantages with this, but the policy owner needs to be careful not to create a situation that the policy could lapse because of a lack of cash. There are many options with permanent policies that go beyond typical insurance needs. They can be used for creating large cash values quickly and when used in that way, provide a means to bank on yourself. You have money in the policy to use for real estate investing or business expansion, or debt repayment. The policy serves multiple purposes. Rather than being a policy that is looked down on by some “investment gurus” and financial advisors, a permanent policy can be a tool for anything from simple coverage for a family against untimely death to tax free retirement plans, business uses, sources to grow whatever business you are in by eliminating the need to the bank.

Variable Life is a very different policy. It is like universal life in that it has insurance policy account and an investment account. The difference between Universal Life and Variable Life insurance policies is how the investment side works. In Variable Life insurance, the investment is directly in the stock market. There will be a variety of investment choices of various funds. They are often sold with promises of big gains that will allow you to have a lot of money later in life. The reality is there are ups and downs in the market, hence the title Variable. The cash account will vary. If the stock market drops 30%, the cash account can lose 30%. These policies also have high expenses. There is the expense for the insurance policy, and the expense for the funds in the cash account. This is where buy term and invest the difference developed in the insurance industry. There are only a few time this policy really works well and it is not for the vast majority of those purchasing life insurance. If there is a complex policy that even the agents don’t understand, this is it.