life insurance 101

1. How much does life insurance cost?

The cost of life insurance premiums varies based on age, gender, health history and condition, and smoking status. Life insurance premiums increase in cost as age increases.

2. What are the main types of life insurance?

The main types of life insurance are cash value life insurance and non-cash value life insurance. Within a cash value policy, there are three sub-types: guaranteed cash value only, variable cash value only, and both guaranteed and variable cash values.

3. Is it ever too early or late to get life insurance?

It is best to purchase life insurance when you’re young. This is because, the younger you are, the lower the premiums are, and in order to qualify for insurance, you must be in a suitable health condition to be covered. We are typically healthy when we are young and as we age, people’s health declines at varying rates. When you get insurance while you are young, you can keep the insurance even if you become unhealthy. If you wait until you are unhealthy, it may be too late for most insurance companies to insure you.

4. Can I withdraw money from my life insurance policy?

You can withdraw money from your life insurance policy if the policy you purchased has a cash value. A cash value life insurance policy allows you to allocate a portion of your premium into a tax-deferred investment account that’s accessible throughout your lifetime. Not all insurance policies have a cash value component, so it’s important to buy the right kind of life insurance that will fits your needs.

5. How does cash value life insurance work?

Cash value insurance is permanent life insurance because it provides coverage for the policyholder’s life. Traditionally, cash value life insurance has higher premiums than term insurance because of the cash value element. Most cash value life insurance policies require a fixed-level premium payment, of which a portion is allocated to the cost of insurance and the remaining deposited into a cash value account.

The cash value of life insurance earns a modest rate of interest, with taxes deferred on the accumulated earnings. Thus, the cash value of life insurance will increase over time. As the life insurance cash value increases, the insurance company’s risk decreases, because the accumulated cash value offsets part of the insurer’s liability.

6. What is better - a cash value or non-cash value policy?

It depends on why you purchased the insurance in the first place. If the purpose is to pay off a debt in the event of your death, such as a mortgage, then a non-cash value policy might be the best option for you – it offers the lowest short-term cost and can easily satisfy all your needs. If the purpose of the insurance is to provide your estate with liquid cash to pay estate tax at your death, then a cash value policy might be the better option. It offers increasing death benefits, can be paid up, and may be more economical over the long term. If the purpose is to assign the policy as collateral to secure a loan, then a cash value policy is the only option.

7. What are cash values?

Cash values are a feature particular only to whole life insurance. There are two types of cash values in a whole like policy the first being guaranteed cash values and the second being non guaranteed cash values. Both the guaranteed and nonguaranteed cash values comprise of what is called the total cash value. 

8. What is an example of cash value life insurance?

Consider a policy with a $25,000 death benefit. The policy has no outstanding loans or prior cash withdrawals and an accumulated cash value of $5,000. Upon the death of the policyholder, the insurance company pays the full death benefit of $25,000. Money collected into the cash value is now the property of the insurer. Because the cash value is $5,000, the real liability cost to the insurance company is $20,000 ($25,000 – $5,000).

9. What are the advantages and disadvantages of cash value life insurance?

The cash value component serves as a living benefit for policy holders from which they may draw funds at any time. The life insurance net cash value is what the policyholder or their beneficiary has left over once the insurance company deducts its fees or any expenses incurred during the ownership of the policy. There are several options for accessing funds. For most policies, partial surrenders or withdrawals are permissible but these can reduce the death benefit.

Taxes are deferred on earnings until withdrawn from the policy and distributed. Once distributed, earnings are taxable at the policyholder’s standard tax rate. Some policies allow for unlimited withdrawals, while others restrict how many draws can be taken during a term or calendar year. Some policies limit the amounts available for removal (e.g., a minimum of $500).

Most cash value life insurance arrangements allow for loans from the cash value. Much as with any other loan, the issuer will charge interest on the outstanding principal. The outstanding loan amount will reduce the death benefit dollar for dollar in the event of the death of the policyholder before the full repayment of the loan. Some insurers require the repayment of loan interest, and, if unpaid, they may deduct the interest from the remaining cash value.

Cash value may also be used to pay policy premiums. If there is a sufficient amount, a policyholder can stop paying premiums out of pocket and have the cash value account cover the premiums.

Cash Value Life Insurance

Pros

• Can borrow against the cash value
• Can withdraw from the cash value in a tax-advantaged way
• Permanent life insurance

Cons

• More expensive out-of-pocket premiums
• Withdrawals reduce death benefit, however the policy dividend can used to create an increasing death benefit that would offset this reduction.
• Unpaid policy loans and interest deducted from death benefit

10. Why consider cash value life insurance?

Policyholders of permanent life insurance have the ability to borrow against the accumulated value, which comes from regular premium payments along with interest and dividends credited to the policy.

11. Should I look into buying a cash value life insurance policy?

Those looking to build a nest egg over a time horizon of several decades may want to consider cash value life insurance as a savings option, alongside a retirement plan like a RRSP. Be aware that cash values often don't begin accruing until two to five years have passed.

12. Why are cash value life insurance premiums higher?

Cash value policy premiums are typically higher than regular life insurance because part of your payment goes toward savings.

13. What happens when you withdraw cash from life insurance?

If you make a withdrawal from the cash value in a life insurance policy, the death benefit will decrease. If you withdraw everything, the policy terminates. Withdrawing money from life insurance is tax-advantaged in that the IRS considered your withdrawals a return of the premiums you paid for the policy. So you can withdraw that amount of money without paying taxes. Any gains from dividends, however, would be taxed - but these would not occur until you've withdrawn all your premium payments.

14. What happens at the end of a Term non-cash value life insurance policy?

Some non-cash value policies can be set up to expire at a certain age or after a certain number of years while others can be kept for your whole life and expire at death when death benefit is paid out. If your policy expires, you can re-apply again or transfer to a cash value life insurance plan at any time during or at the end of the policy term.

15. Can I get money back if I cancel my life insurance?

If you cancel a cash value insurance policy, you will get money back, and depending on how the policy is set up, you may even get back as much as you put into the policy or more.