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Life Insurance: What Type is Right for You?

There comes a time in many people's lives when they contemplate adding life insurance to their spending plan. The birth of a child or buying a home where two incomes are needed to make the mortgage payments are common reasons to explore risk-minimizing products. The primary purpose of life insurance is income replacement - to protect loved ones who depend on you for financial security.

So what type of life insurance policy is right for you? There is a world of difference in cost and function of products. Before contacting an insurance agent, make sure you have a basic knowledge about the options that are available.

Term Insurance

The name "term insurance" says a lot: you buy it for a specific period of time - a term of 1, 5, 10, 20, or even 30 years. If you die within that time frame, your beneficiaries will receive a preset amount of money (the death benefit). However, since it never accumulates a cash savings, if you fail to pay your premiums or die after the term ends, they receive nothing.

The major advantage of a term life insurance policy is, if you are young, extremely low premiums for a substantial death benefit. However, each time you renew the policy (and the older you get), the more expensive term insurance becomes. Eventually, with many term policies, the cost of the insurance is not worth the payoff value once you reach an older age.

If you have life insurance through your employer, it is probably a term policy (the term being the time period that you are employed). The death benefit for most employer-provided life insurance policies is usually equal to one year's salary. While that may be enough to cover funeral costs, it may be insufficient to cover outstanding debts or support dependant family members.

Cash-value Insurance

Cash-value insurance (also called permanent insurance) provides both a death benefit and, since a portion of the money you pay in premiums is invested, cash accumulation.

The downside of cash-value insurance policies is that the premiums tend to be considerably more expensive than for term plans. However, as long as you make your premium payments the policy can never be canceled, and money does build up - important features to consider when making your decision.

There are many different types of cash-value life insurance policies - here are the most common:

Whole Life Insurance

Whole life insurance provides a predetermined death benefit with constant premium payments. The cash that accumulates is invested in fixed income securities and after a few years, you have the right to borrow against it. You may also cancel the policy and walk away with the money that's accrued - called the cash surrender value. One of the drawbacks of traditional whole life insurance is that the premiums are out of range for many who are just starting out in life.

Universal Life Insurance

Universal life combines some of the more attractive features of whole insurance with those of term insurance: cash accumulates and is invested the way whole life is, but the premium payments vary to meet your budgetary needs. Another attribute of universal life insurance policies is that more information about company overhead expenses, reserves, and how much is retained for your savings is disclosed than for whole life policies.

Variable Life Insurance

The main feature of a variable policy is that it's cash reserves are invested in securities, stocks, and bonds not chosen by the life insurance company, but by you, the policyholder. There are two basic forms of variable life - one with fixed premiums, called straight variable life and the other with flexible premiums called variable universal life. In either form, these types of policies are risky: if your investments perform well, the cash value portion of your savings does well. If they fail, your savings suffer.

Life insurance exists to protect loved ones who depend on you for financial security - it is a sound part of many long-term financial plans. However, as with all purchases, buyer beware. Most insurance agents make their living through commissions, so look for and resist high-pressure sales techniques. Before purchasing any policy, check out insurance company rating services (such as A.M. Best, Moody's Investors Service, and Standard & Poor's) to make sure the life insurance company will be around when you need them to be.

Federally insured by NCUA