Life Insurance 101: What does Life Insurance do?

By Garrett Smith, December 26th, 2020

When I was a kid and I first heard the term “life insurance”, I had no clue what it referred to. Later, when I found out that it was something you pay for that you got no money out of, I really didn’t see the point of it. I had the mind of a dumb child.

Nowadays, most of us know better. We understand that life insurance provides protection for the people you love. As an adult, it’s one of the most important and responsible things you can give your family. Moreover, life insurance can be used as an asset just like your bank account, your home, your 401(k), and many other investments; it can provide you with more buying power. An idea that my young mind couldn’t even grasp.

But knowing that you need life insurance and knowing what kind of life insurance is right for you and your family can be a complicated undertaking. There are a lot of different policy builds and structures, so navigating why you might buy one vs the other can be an extremely confusing task. Buying the wrong product is a fear everyone has, so allow me to help you by defining a few basic life insurance terms, to make your buying decision a bit easier. Let’s start with the biggest decision you’ll need to make by defining term vs whole life. These are the two primary types of policies you’ll be looking at when searching for life insurance.

TERM LIFE

Term life simply means that you have a policy that lasts a certain period of time. The most common terms are 10, 15, 20, 25, and 30 years. You would want to consider this type of policy if your loved one’s expenses would become unmanageable on their own should you become critically ill or pass away. A very common use of this policy is for mortgage protection, not to be confused with PMI (private mortgage insurance), which is a policy that benefits the mortgage company, and not the homeowner.

Let’s give an example:

Bill and Jane buy a home in Georgia with a mortgage. They split the mortgage payment. One day, Bill is driving back home from work and gets into a car accident. Bill passes away from the injuries he sustained. Since Bill and Jane did not have any kind of life insurance policy in place, Jane, as a single earner, cannot afford all of the bills plus the mortgage. Unfortunately, in this instance, Jane loses the home.

Let’s break down another:

Dave is the single earner for a household of 4 (him, his wife, and their 2 kids). One day, he is feeling ill and goes to the hospital. Dave is shocked when he is diagnosed with terminal cancer. Since Dave can no longer work, he needs supplemental income to take care of himself and his family. Before Dave had cancer, he bought a term-life policy for $500,000. Because his term-life policy carried a critical illness rider, Dave is able to withdraw funds from the death benefit to pay for his medical expenses and everything else he needs to take care of while he can’t work.

Both of these are prime examples of why purchasing a term-life insurance policy might be a great fit for you and your family. In the case of Bill and Jane, because they had no protection, Jane could no longer cover her mortgage. She was forced, while grieving, to sell the house and downsize because of the loss of her husband. If Bill had a policy in place before his accident, he would have provided Jane the funds she needed to protect their home and it would have allowed her the time to grieve for her loss without the worry of dealing with bills and expenses. Dave’s example has a happier outcome. Dave was diagnosed with a life threatening illness, and at that time he was able to focus on the important task of treating his illness. He wasn’t worried about losing his home due to his increased medical expenses. He wasn’t worried about how his 2 children would eat. He was granted the freedom to focus on saving his own life. Term-life insurance in this example was not only able to pay for his medical expenses, but it also covered any bills that might have needed attention while he couldn’t work. If either of these examples make sense and resonate with you and you’d like to set up a plan to protect your family, please fill out our request form, and I’ll be glad to see what we can do to meet your needs.

To expand upon the above examples, I want to touch on an additional benefit your term life policy can provide. There are additional features that can safeguard your financial wellbeing long before your loved one would need to cash in your policy. Depending on the carrier, they might offer a benefit called “return of premium”, which means if you outlive the policy term, you get all of the premiums you paid into the policy returned to you as a lump sum. This is just an extra peace of mind benefit that rewards you for being responsible. If your premium is $50 per month for a 30 year term policy, and you live longer than 30 years after you’ve taken the policy, on year 30 you would receive a lump sum return of $18,000. Make sure to ask about this feature while you’re shopping for life insurance, and if you want more information on how this works, fill out our request form, and I’ll be glad to explain in more detail.

You need to consider when acquiring a term life policy, that eventually, the policy will expire. Some insurance companies allow you to convert your term policy to a whole life policy when it expires. This is an important feature you should ask about when shopping for your policy. As you get older, whole life policies will become much harder to acquire. Knowing you can convert your policy will provide you with added protection and peace of mind.

WHOLE LIFE

Whole life is a policy that covers you for your entire life. Whole life policies are structured so you pay premiums into the policy for your entire life. As you continue to make payments the policy builds cash value with every premium you pay. This cash value will accrue interest, building in greater value overtime and giving you a greater asset later in life. It’s important to note that with whole life policies, in times of need, you can take out a loan against your cash value. This is not to be confused with the face value, as you have to earn a certain amount of cash value before you are allowed to withdraw funds. Make sure you know the details of this benefit with your trusted advisor so there’s no confusion.

As briefly mentioned earlier, it’s important to get a whole life policy while you are young. Ideally in your 20’s and 30’s. Whole life policies have a level premium, and so the younger you are the less expensive your monthly payments will be. If you wait, the same policy will be much more expensive and continue to become more expensive the older you get.

A very common use for a whole life policy as you get older is for a funeral expense policy. Let’s break down an example:

Mary just turned 65 and is concerned because she does not have a life insurance policy in place to handle her affairs when she passes. Mary buys a whole life policy that will be paid in full when she turns 85. The funds from this policy are tied to her estate. This allows her family to use the funds to cover her funeral expenses and burial. This gives Mary the comfort of knowing when she passes away, she will not leave her loved ones with the burden of paying for her funeral, burial, ect. Her passing can be the celebration of her life she wants it to be, not an unexpected burden and expense.



If you have any questions about how to create an end of life celebration with a whole life policy, please fill out our request form, and we’ll be in touch to go over the details.

If you are interested in a whole life policy but want more flexibility with greater living benefits attached, consider looking into a universal whole life policy. Universal whole life policies allow you to change the policy premiums or even the death benefit amount when/if needed. Universal Life policies also give you leverage to use different investing strategies to gain more interest into the policy. They can grow in cash value over time, especially indexed universal life policies, which if built correctly, can give you a lifetime, tax free income.

There are many options available with whole life policies and it is recommended that you talk to a trusted advisor about which options suit your needs the best. Feel free to contact me by filling out our request form, and I can go more in depth about different companies and policies to choose from, to make your buying decision for your future an easy one.