Life insurance provides financial security to anyone who depends on you in the unthinkable event that you die. Certain types of life insurance can also function like savings accounts that you can borrow against.
Life insurance is a must-have financial product for anyone with minor children or a dependent spouse. It can also be useful in certain situations even if you don’t have dependents.
What is life insurance?
Life insurance is a contract between yourself and an insurance company. If you pass away, the life insurance company agrees to pay a death benefit to your beneficiaries, or people you designate. The death benefit is a set sum of tax-free money, which can be used for any purpose. There are many different types of life insurance which differ in terms of coverage length, cost, and features.
Types of life insurance
Most life insurance policies fall into one of two major buckets: term life insurance or permanent life insurance.
How does term life insurance work?
Term life insurance protects you for a certain period of time, called the term. It has fixed premiums and a guaranteed death benefit.
If you die during the term, your beneficiaries will receive the payout, as long as you pay the premiums and follow the rules of the contract. If you outlive the policy, the policy expires, and you and your beneficiaries get nothing.
For example, let’s say you purchased a 30-year term life insurance policy with $500,000 of coverage at age 25. You die of a heart attack on your 50th birthday. The contract would pay $500,000 to your beneficiaries based on how you allocated the money in your policy.
If the same person in the example above died at age 65, their beneficiaries would receive nothing. That’s because the term would have expired when the person was 55 years old.
Term life insurance is often the cheapest type of life insurance for young adults. A term plan is more affordable than a permanent plan because it provides limited coverage and doesn’t have additional features, like cash value.
How does permanent life insurance work?
Permanent life insurance lasts your entire life. Although it provides more protection than term life, the premiums for permanent life insurance can be much higher.
The most common type of permanent life insurance is whole life insurance, which has fixed premiums and a guaranteed death benefit that your beneficiaries receive when you pass away.
Whole life also builds cash value, which acts as a savings account. That money can be borrowed or withdrawn while you’re still living and used for any purpose. Although most young adults will get the best value from term life insurance, it’s important to understand the differences between term and whole life insurance.
Besides whole life insurance, there are several other types of permanent life insurance that are less common (and somewhat more complicated). Here’s a quick breakdown of the other forms of permanent life insurance you can get:
Universal life insurance
Universal life allows you to use your cash value to adjust the frequency and amount of your premiums, and potentially increase the death benefit. The cash value grows at a current interest rate set by the insurance company or a minimum interest rate (whichever one is higher).
Indexed universal life insurance
Indexed universal life policies also have an adjustable death benefit and flexible premiums. However, the cash value grows at an interest rate that is tied to a stock market index, like the S&P 500.
Variable universal life insurance
Variable universal life has the same features as universal and indexed universal life. The difference is that the cash value gets invested directly in stock market accounts (typically mutual funds). Variable universal life has the potential for big gains, but you can also lose money if your investments don’t perform well.
Final expense insurance
Final expense insurance, also called burial insurance, provides a small amount of life insurance coverage without a medical exam. It can be a good option for people with pre-existing conditions who can’t qualify for a fully underwritten policy. However, the premiums tend to be expensive.
Depending on the type of permanent life insurance, you’re usually required to pay premiums until you die. As long as you pay your premiums and follow the contract, you’re insured for the face value of the policy. When you die, the money is given to your beneficiaries.
How life insurance is priced
Life insurance premiums are unique to each individual. The exact factors used and how they influence rates will vary from company to company. However, there are a few factors that will always impact your premium.
In general, the younger you are, the lower your life insurance premiums will be. This makes sense, as people normally have a higher chance of dying as they get older. To get the lowest rate, insurance experts recommend purchasing life insurance early in your adult life.
Cisgender females typically live longer than cisgender males. This often results in women paying lower rates than men, assuming all other factors are the same. However, the difference in rates based on gender alone is not usually significant.
Health and family history
Insurers pay close attention to your current health, and many insurers require a medical exam before you can get approved. They will look at your personal health, family medical history, vitals, weight, lifestyle choices, and other factors that can contribute to mortality. Unfortunately, there are many reasons why you might be denied a life insurance policy. Being overweight, using cannabis or engaging in a dangerous hobby can all disqualify you with some insurers.
The term, or length of time the policy is in effect, can be a huge factor in pricing. The longer the term is, the more likely an insurance company will have to make a payout. This usually results in higher premiums.
In addition to factors like age and health, life insurance companies may also want to know about your hobbies and occupation. If you participate in risky activities or work in a high-risk job, it could impact your life insurance premium.
Another factor that can impact life insurance costs is inflation. To continue making profits, life insurance companies can raise rates in accordance with current inflation rates.
How to choose the right life insurance for you
Choosing the right life insurance policy is a personal decision. You shouldn’t let a life insurance agent sell you a policy based on what they think you need. Instead, you should carefully consider your financial goals, your risk tolerance, and your family’s financial needs to decide both what kind of policy you need and how much life insurance you need.
Here are a few questions you can ask yourself to determine what type and how much life insurance you need:
- Why do you need life insurance?
- Who would need to rely on the life insurance payout if you passed away?
- How will your family change over the next 20 or 30 years?
- How much money would they need to continue living a normal life without your income?
- At what point will the assets you build provide this without needing life insurance?
- At what point will there no longer be a need for life insurance because dependents have left your care after high school or college?
» Use our life insurance calculator to decide how much insurance you need.
How to choose a beneficiary
When you purchase a life insurance policy, you need to select a beneficiary. This is the individual who will receive the proceeds from your life insurance policy when you pass away.
You can select anyone as your beneficiary, but many people appoint their spouse, child, parent, or sibling. You can also appoint more than one beneficiary and decide how the death benefit will be divided. It’s usually a good idea to have a primary and secondary beneficiary in case the primary beneficiary passes away or doesn’t claim the money.
As an alternative, you can appoint a non-profit organization to be your beneficiary, or add your life insurance policy to your estate. Whoever inherits your estate gets to choose where your life insurance proceeds will go.
Ultimately, you should choose a beneficiary that will best benefit from the financial assistance your life insurance policy provides.
How to file a life insurance claim
Life insurance beneficiaries are responsible for filing life insurance claims. If you’re a beneficiary and the insured policyholder passes away, here are the basic steps you’ll need to follow to file a claim:
- Contact the insurance company and notify them of the policyholder’s death
- Provide a copy of the insured’s death certificate
- Share identification to prove that you are the rightful beneficiary
- Fill out additional claim paperwork
- Receive the death benefit
Depending on the life insurance company, you might be able to start the claim process online. However, you should expect to work with an agent for at least part of the process. A life insurance agent can give you more information on how the claim process works and what to expect.
How do life insurance payouts work?
When the insured individual passes away, their beneficiary is usually eligible to receive the death benefit. However, life insurance policies don’t payout instantly. It can take several weeks to several months before you receive the money.
If the individual passes away during the contestability period (usually the first two years of the policy), the life insurance company can review the policyholder’s application to make sure they didn’t withhold information about a medical condition.
Additionally, there are instances where life insurance beneficiaries can’t receive the death benefit. For instance, a policy may prohibit risky activities like skydiving. If you die in a skydiving accident, your beneficiaries may not receive any compensation. Also, most policies don’t cover suicide during the contestability period.
As part of the claim process, you will get to decide how you receive the death benefit. You can often choose to receive the money in one lump sum or in fixed amounts over a period of time (essentially as income replacement).
If none of your beneficiaries are living at the time of your death, your payout will generally go to your estate, where it gets distributed via probate. To avoid complications, it’s important to keep your beneficiaries up-to-date and designate backup beneficiaries in case this happens.
Life insurance terms defined
Life insurance can be confusing, and there’s lots of terminology thrown around that often sounds like a foreign language. Here are some common life insurance terms you should know:
- Policyholder: The owner of the life insurance policy. This person is also called the insured.
- Beneficiary: The individual(s) or organization that receives the death benefit when the policyholder passes away.
- Premium: The premium is the annual cost of keeping your policy in force.
- Death benefit: Also called the face value of your policy, the death benefit is the amount of money your beneficiary receives when you pass away.
- Cash value: Permanent life insurance policies have cash value, which is like a savings account that grows with each premium payment. You can use the money while you’re still alive by withdrawing the money for taking a loan from the insurance company.
- Rider: An optional policy, also called an endorsement, the rider fills gaps in your standard coverage and provides more specific protection.
- Medical exam: Some life insurance policies require a medical exam. It’s a physical exam that helps the insurance company learn more about your health and mortality risks.
- Individual life insurance: A life insurance policy you purchase for yourself is considered individual life insurance.
- Group life insurance: Group life insurance is a life insurance policy you receive from your employer as an employee benefit.
- Contestability period: Most life insurance policies have a contestability period for the first two years. If you pass away during this time, the insurance company can review your application to determine if you provided false information or withheld certain diagnoses. It can impact whether your beneficiary is eligible for the death benefit.
How to get life insurance quotes
To get a life insurance quote, you will need to fill out an application online or with an agent. You have to disclose information like your height, weight, age, gender assigned at birth, health history, and other important information. At this point, you may be given a preliminary rate quote.
As a next step, you might have to complete a medical exam with a blood test. This is used to learn more about your health. Based on the results, you’ll be given a final determination about whether you qualify for life insurance and what your premiums will be.
If you want to start the process of getting life insurance quotes, here are some of our picks for best life insurance companies for young adults.
If you don’t want to take a medical exam to apply for life insurance coverage, Bestow can help. Rather than requiring a traditional medical exam and bloodwork, Bestow uses data to price the life insurance policies.
Bestow only offers term life insurance policies for 10 or 20-year terms. Coverage ranges from $50,000 to $1,000,000. If you want permanent life insurance, a longer term, or a coverage amount outside of that range, you’re out of luck.
You can get a quote in seconds and get actual life insurance coverage in just a few minutes. The speed of the process could more than offset the downside of the potentially higher cost from not getting a traditional medical exam.
Read our Bestow review.
Ethos is a life insurance company that claims to put you first. They only offer term life insurance and allow you to apply for coverage online. They even state that a medical exam isn’t necessary in most cases, which definitely speeds up the life insurance process.
Ethos offers many different coverage options depending on your needs, from 10-year to 30-year policies with coverage from $100,000 to $1,500,000. You can even get an initial price quote in seconds. If you end up not liking the policy for whatever reason, you can get a refund within the first 30 days, too.
Later on in the policy, you can cancel at any time without cancellation fees. This can be useful if you build up enough assets to no longer need life insurance earlier than anticipated.
Read our Ethos review.
Your life insurance needs will change over time and that is why we included Ladder in this list. Ladder knows that you may not need as much life insurance in the future as you start building your financial assets over time. After all, if you have $500,000 in investments, that is probably $500,000 you won’t need in life insurance.
While you might not have $500,000 in investments today, regular investing over a decade or two could get you there. If you have a 30-year term life policy, that may mean you could be over-insured in the future. Ladder allows you to adjust your coverage levels at any time without processing fees and with ease.
Ladder’s policies are issued through highly rated insurers that have long histories of paying claims and supporting families.
Read our Ladder review.
Fabric by Gerber Life
If you’re getting life insurance because you want to plan for your family’s future, Fabric by Gerber Life might be the best option for you. This direct-to-consumer insurance agency provides term life policies as well as tools for managing your family’s finances. In addition to affordable and customizable policies, Fabric by Gerber Life offers an app that can help you with everything from creating a will to organizing your spending and savings account in one place. For convenient collaboration, insurance policies are easily sharable with your partner or co-parent through the app or platform.
Coverage amounts for term life insurance range from $100,000 to $5 million and term lengths are available for between 10 and 30 years. Policies start at just $7.86 a month.
You can fill out an application in just 10 minutes to receive your personalized recommendations and get started.
Read our Fabric by Gerber Life review.
Life insurance is an important part of most people’s financial plans. It can provide much-needed money to your dependents at their time of greatest need. No one should have to stress about money when their loved ones have passed away.
If you don’t currently have life insurance, evaluate your situation to see if it is necessary. If it is, get quotes today to start the life insurance process. Check out our article on the best companies to buy life insurance from in 2023.