Types of Term Life Policies

Renewable Term Policy

Term policies are either renewable or nonrenewable. This means, for a small additional premium, the policyowner has the contractual right to continue or renew the contract at the end of the term. If a policy is renewable, the policyholder may unconditionally renew the coverage for successive terms at higher premiums (appropriate for the given renewal age) merely by paying the indicated premium. Insureds do not have to sign forms or provide evidence of good health at each renewal period.

If the policy is nonrenewable, at the end of the term of coverage the policyholder has no legal right to continue the insurance. This means the policyowner must reapply for new insurance. If the insured’s health has deteriorated, he or she may no longer qualify for coverage, or coverage may be obtainable only at a significantly higher rate.

Although premiums typically are higher for renewable policies than for nonrenewable policies, the added cost is generally worth it if the policyholder expects the need for insurance to continue beyond the initial term of the policy. In many cases what was thought to be a temporary need continues far longer than was originally anticipated.

Some term policies are renewable to age one hundred. However, many policies restrict renewability after certain ages, typically between ages seventy-five and eighty-five. In addition, most insurance companies do not offer renewable term policies to new applicants after a certain age, typically between age sixty and seventy.

Convertible Policy

This is one of the most important options a policyholder should consider in purchasing term insurance. In return for a slightly larger premium (to compensate the insurer for the extra risk it is assuming), most renewable term policies give the policyholder a contractual right to exchange the term policy for some other type of life insurance policy without evidence of insurability. Typically, the conversion privilege gives the policyholder an absolute contractual right to convert the term insurance into some form of permanent insurance that builds cash values, typically ordinary whole life.

The conversion feature is often attractive when a person’s circumstances change and there is a need for lifetime coverage. Conversion allows the policyholder to lock-in the premiums, albeit at a higher rate than the current renewal term rates, and avoid the ever increasing term premiums at later ages. For the client who becomes ill or permanently disabled on a long term basis, conversion to a whole life contract will represent the best means of continuing insurance coverage beyond the originally anticipated term.

The conversion privilege often expires after a specified number of years or after the insured reaches a certain age. Typical examples would be one-year renewable term policies that are convertible for twenty years or that the policyowner may convert until the insured reaches age sixty. The upper age limit on conversion is usually lower than the renewability limitation. A policyowner, owning a policy renewable to age sixty, for example, may only be able to convert the policy until age fifty-five or fifty-nine. This limitation helps to prevent extreme cases of adverse selection against the insurance company whereby persons in poor health convert their policies just before the expiration of their rights to renew coverage without evidence of insurability.

All convertible term policies allow what is called attained age conversion. The company issues a new policy based upon the insured’s attained age in the year of conversion. In other words, the new policy is issued and the policyholder pays premiums as if the policy were based on an entirely new application, except that there is no need to prove insurability.

Some company’s term policies allow the policyholder to elect to convert in another way called “original age conversion.” In this case, the new policy is written as if it had been issued as of the issue date of the term policy that is being converted. The premium is based on the insured’s age when the term policy was issued, not the insured’s attained age. Consequently, when companies use the original age conversion method, the premiums for the converted policy generally will be less than when companies use the attained age method.

However, because the new policy is usually some form of permanent cash value insurance, the insurer must make an adjustment for the fact that the policyholder has not been paying the higher premiums associated with the new permanent form of insurance. Typically, the policyholder must pay the difference in premiums since the issue date of the term policy, along with 5 or 6 percent interest compounded annually on these differences. Because the adjustment factor becomes quite large and, in most cases, unaffordable, unless the term policy is converted within a few years, this type of conversion is often offered only for a limited period, such as only within five years of the issue date of the term policy.

Level Term Insurance

As its name implies, level term means that the death benefit remains level throughout the selected term of coverage. Insurers may issue term policies with virtually any initial face amount (i.e., the amount payable at death). However, they typically issue policies only in increments of $5,000 or $10,000. Generally, premiums for level term increase each time the policyowner renews the contract even though the face amount remains the same.

Increasing Term Insurance

Insurers typically offer increasing term only as a rider (i.e., a low-cost add-on) to another basic policy, such as ordinary whole life, or as part of a package of policies. This type of coverage is commonly called a return-of-premium benefit or a return-of-cash-value benefit. The basic idea is that in the event of the insured’s death while the increasing term policy is in effect, the beneficiaries receive the entire face amount on the basic policy plus a return of the premiums paid or the cash value. In essence, it is equivalent to owning a level-term policy plus a savings account equal to the cash value of the basic policy. Increasing term riders typically do not extend for a period of more than twenty years.

Decreasing Term Insurance

Decreasing term is a popular form of term coverage that families frequently use to assure the family will have the resources to pay-off a home mortgage and/or other loans in the event the family’s primary breadwinner dies. For this reason, it is often called mortgage insurance.

The policyowner selects an amount of initial coverage. Then, over a specified period, the death benefit declines steadily until it reaches zero at the end of the term. This decrease in face value may occur monthly or annually. Premiums typically remain constant and are payable for the duration of coverage or for a shorter term. Because the coverage is decreasing while the premiums remain level, as the insured ages each dollar of outlay buys less insurance.

The coverage may continue for a specified term of years, typically ten, fifteen, twenty, or thirty years, or until the insured reaches a certain age, often age sixty-five. The duration is usually selected to coincide with the time normally required to repay the loan.

Increasing Premium, Level Death Benefit Term Policy to Age Sixty-five

Term policies with level death benefits and annually increasing premiums are simply one-year renewable term policies. An increasing premium, level death benefit term policy to age sixty-five is simply a one-year term policy renewable to age sixty-five. One-year renewable term policies, which are also known as Yearly Renewable Term (YRT) policies or Annually Renewable Term (ART) policies, were originally the most common form of term insurance sold. However, today, other level premium term programs for various durations ranging from five to twenty years, or longer, have become more popular and common.

Reproduced with permission.  Copyright The National Underwriter Co. Division of ALM

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