Life Insurance Basics and Policy Types
Building a premium
Net premium reflects mortality and interest; gross premium adds expenses. Level premiums over-prepay in early years, creating reserves and, in permanent policies, cash value. Mortality is measured with a commissioners standard ordinary (CSO) table.
Term insurance
Term is temporary, pure protection with no cash value. Know level term, decreasing term (often mortgage protection), increasing term (level premium, rising face), and annually renewable term (premium rises each year). Renewable means guaranteed renewal without evidence of insurability; convertible means exchange to permanent coverage without underwriting, within a stated window.
Permanent insurance
Whole life offers a level premium, guaranteed cash value, and matures at age 100 or 121. Variations include limited-pay and single-premium. Universal life has flexible premiums, an adjustable death benefit, a cost of insurance that rises with age, current versus guaranteed interest, and two death-benefit options (level and increasing). Variable life and variable universal life invest in a separate account and are securities: registration, a prospectus, and a securities license are required. Indexed UL credits interest by an index subject to a cap, participation rate, and floor.
Other forms
Group life (master policy, certificates), credit life, juvenile, modified/graded premium, first-to-die and survivorship (second-to-die) policies used in estate planning, key-person and buy-sell coverage.
Taxation
Death benefits are generally income-tax-free, cash value grows tax-deferred, and dividends are a return of premium. A policy failing the 7-pay test becomes a modified endowment contract, and distributions are taxed LIFO with a 10% penalty before 59½.
Traps: "term builds cash value," "UL premiums are guaranteed," "VUL is not a security," "second-to-die pays at the first death."
Rule of thumb: match the duration of the need to the policy type - a 20-year mortgage need is 20-year level term.