Common Life Insurance Policy Strategies

Life insurance can be complicated – as with saving for retirement, there is no single solution that fits every individual’s needs. However, that doesn’t mean that a few common strategies for making life insurance decisions don’t exist. These each have pros and cons, but at the end of the day, the solution that will work best for you and your family is one that is tailored to your needs and your goals.

The rule-of-thumb strategies listed below can give you a good idea of how to start planning, but we recommend speaking with an insurance expert to get advice for your specific situation.

Buy term life insurance and invest the rest.

Because there can be a significant difference in the pricing of term and permanent life insurance policies, this strategy hinges on the idea that a policy owner could make better use of their funds by investing the cost difference between a permanent policy and a term policy in the market.

This method does allow an individual to put more money into a traditional investment portfolio than if they were spending an equivalent amount of money on life insurance premiums. However, the market is unpredictable and there is no guaranteed return on investment for those funds, which makes it a riskier strategy than purchasing a permanent life insurance policy which has a guaranteed payout and allows the policy owner to access the policy’s cash value if they need a loan.

Term life insurance also expires, meaning that once the policy contract is complete, coverage no longer exists. This can be risky, depending on the policy owner’s life insurance needs and how life insurance is being used to protect policy beneficiaries. For those who are hoping to leave a legacy, term insurance will only work if the insured passes away during the policy’s term. Permanent insurance, however, will always pay a death benefit no matter when the insured passes away, so long as the policy is in good standing. Coupled with an unpredictable economic environment, this strategy could leave beneficiaries without any accessible funds after the insured’s death.

Use permanent life insurance as a savings vehicle.

For policy owners with long-term financial goals, like paying for a child’s higher education, a permanent life insurance policy could fill two needs: providing a death benefit to beneficiaries and providing funding for various needs during the life of the insured.

Permanent life insurance policies accrue cash value over time, and once cash value becomes available, policy owners may be able to take loans from the available balance to use as their needs dictate. Funds are provided to the policy owner for immediate use, and consequently immediately reduce the policy’s available cash value and net death benefit – but allow the owner to pay for other financial obligations. They can then repay their loan over time to reinstate the policy’s full death benefit.

This strategy may work for individuals who know that they have large, one-time financial needs that must be fulfilled in the future. However, policy loans do incur interest, and if, for any reason, the policy’s cash value reaches zero, the policy may lapse and terminate. Further, if the policy owner takes a loan and the insured passes away before the loan is repaid, the policy will only pay the original death benefit minus the balance of the outstanding loan to the policy’s beneficiaries.

Life insurance “laddering” with term life insurance.

Life insurance laddering involves buying multiple term policies of different lengths because the average individual has more financial obligations when they are younger than when they are older. Consider the following example:

• A person purchases three $300,000 policies, with term lengths of 10, 20, and 30 years. For the first 10 years, that person effectively has $900,000 of coverage. During years 10 to 20, they have $600,000 of coverage. In the final years of the 30-year term, they have only $300,000 of coverage. This provides the person with the most coverage at the time that their financial needs are highest. During the first 10 years, that person may have childcare obligations, a vehicle loan, a mortgage, and want to provide replacement income for their spouse. As time goes on, those financial obligations lessen – the car is paid off, the mortgage eventually is paid off, childcare costs decrease over time (unless the individual opts for private school or wants to provide funds for higher education, in which case a higher coverage amount could be chosen), and the individual gets closer to retirement, meaning that they would need to provide less replacement income for their spouse.

Laddering allows policy owners to save money by purchasing a number of smaller policies in place of one large policy. Because policy premiums are based on both coverage amount and term length, there may be considerable savings in purchasing multiple shorter and smaller policies.

However, this strategy does not guarantee a payout on death, given that the insured could outlive all of the term policies – individuals who desire a guaranteed death benefit for their loved ones would need to purchase an additional final expense or permanent policy.

Combining term and whole.

Most individuals can benefit from a combination of term and permanent life insurance. As mentioned above, term life insurance can provide coverage for life’s fluctuating expenses, like mortgage payments, education, replacement income, and debt repayment, while permanent life insurance can provide coverage for an individual’s final expenses and leave a legacy to their survivors. Together, term and permanent insurance provide well-rounded coverage that provides protection for an individual’s entire life.